JURIST Guest Columnist Reid Murdoch, University of Michigan Law School Class of 2016, explores the economic and political ramifications with recreational marijuana use being legalized in Colorado and Washington…

The legalization of recreational cannabis by Colorado and Washington voters in November 2012 created an unsustainable tension between state and federal power. The state reforms created no “positive conflict” of law, because residents can comply with both federal and state law at the same time by not participating in the cannabis business. While the reforms were thus in no immediate judicial danger, one of two consequences was inevitable: either the states would proceed with legalized pot or federal law would stop the trend short. The fate of the ballot initiatives was contingent not on their legal survival, but on overcoming the pre-existing institutional barriers to a regulated market. Federal enforcement of the Controlled Substances Act (CSA), related money laundering and tax provisions and requirements for educational institutions all pointed to the reforms’ death. Recent developments have turned the tide in the other direction.

Ball in Obama’s Court: The Executive Branch Must Respond

As federal issues, these institutional barriers were largely under the control of the Obama administration. While the President favored decriminalization early in his political career, by 2008 he reversed his stance. In the fall of 2012, the veranda was precarious at best. Earlier that year, the Obama administration actually ramped up enforcement efforts. All summer, US Attorneys’ Offices (USAOs) had been seizing assets of even the most (state) law-abiding and respected medical marijuana dispensaries despite assurances to the contrary (the Ogden memo). Sure enough, within days of the ballot measures’ passage, the Department of Justice affirmed it would continue to enforce the CSA.

In December 2012, Obama expressed a new cautious willingness to acquiesce to Colorado and Washington. The shift reflected the views of most Americans at the time: states’ rights should be respected in regards to marijuana. Though a Congressional amendment would completely resolve the tension, discretionary enforcement was now on the table as a federal comprise.

Discretionary Federal Enforcement: An Inevitable Solution

On August 29, 2013, the Department of Justice notified federal prosecutors of a new internal policy, the Cole memo. US Attorneys were no longer to file cannabis cases in legalization states, except those falling within eight identified enforcement guidelines. A conference call with Governors Hickenlooper and Inslee suggested the DOJ was serious about its intentions. If Colorado and Washington proved they could effectively regulate cannabis in their states, federal enforcement would be reserved for cases seen as endangering public safety, such as those involving firearms and interstate trafficking.

The lack of a positive legal conflict, owing to the language of the CSA, limited federal options to stop the new laws. Yet, the directives in the Cole memo remained “guidelines.” These vague enforcement priorities, reformers worried, could easily be stretched to target seemingly law-abiding cannabis retailers, as had occurred with medical marijuana and the Ogden memo in 2012. Prohibition, however, would create problems for federal law enforcement officials concerned with national security. Unlike medical marijuana, legalized recreational cannabis will be utilized by large swaths of the population in those states. Nearly $2.5 billion in legal cannabis is projected to be sold this year alone.

In a comprehensive April 2013 paper for the Brookings Institute, Stuart Taylor, Jr. argued that backing state regulation was Obama’s only sensible option. Legal markets were scheduled to go live on January 1, with state officials actively creating regulatory schemes designed to comply with the Cole memo. If the DOJ were to go forward with prosecuting retailers in compliance with state laws, the market would shift back underground, a wholly unappealing consequence. Encouraging states to heavily regulate their markets, on the other hand, would promote accountability and safe practices while preserving an aura of law and order. It became clear to the Justice Department that cracking down now would only sow chaos. Obama’s best move would be allowing states to proceed, carefully tracking their regulatory effectiveness while using narrow discretion in filing cannabis cases.

Dismantling Remaining Institutional Barriers to Regulation

As foreshadowed by Deputy Attorney General James Cole, the most worrisome difficulty in keeping the industry safe was access to banking. Dating back to alcohol prohibition, financial institutions and servicers kept a healthy distance from assets arguably derived from illicit substances. The Obama administration did itself no favors in this area in its handling of medical marijuana in the early 2010s: banks and credit card companies shut their doors to dispensaries after federal threats of money laundering charges.

As the amendments take effect, recreational cannabis retailers have been forced to operate as cash-only businesses. While this may not be an issue for your neighborhood cafe, pot shops will regularly pass tens of thousands of dollars, and criminals know it. Recognizing the enormous public safety hazard created by heaps of unsecured cash, Attorney General Eric Holder announced that regulations have been successfully worked out to allow law-abiding pot shops to utilize national-scale banking services.

Regulation is thus seen as the removal of institutional barriers such that cannabis markets to operate safely above ground. While the new discretionary federal enforcement regime and liberalized banking are major steps in the right direction, institutional obstacles remain. While cannabis remains a Schedule I federally prohibited drug, any entity that has a relationship with the federal government will be wary of appearing to bless legalized pot. Educational institutions, in particular, are now feeling the tension. For example, any 21-year-old in Colorado may now legally possess cannabis, rendering its status analogous to alcohol. Any college student will, however, still receive a disciplinary violation if found with cannabis on the property of either of Colorado’s public universities. Washington colleges have similarly declined to adapt their policies thus far.

Institutions of higher education (IHEs), like banks, are acting conservatively, because their relationship with the federal government creates a presumption of financial liability. The Drug-Free Schools and Communities Act (DFSCA) requires IHEs to maintain policies prohibiting illicit drug and alcohol use, made public and to be enforced with consequences. Noncompliance may result in loss of eligibility for Federal Student Aid and other grants. The exact language of the provision, however, is ambiguous enough that an IHE could plausibly formulate a student conduct code simultaneously permitting cannabis possession by those of age and complying with the DFSCA. Furthermore, any perceived threat of loss of aid is unsubstantiated: as reported by Devon Tackels [PDF] with Students for Sensible Drug Policy, no IHE has ever lost federal assistance for a DFSCA violation.

A final institutional barrier for the regulated market is the tax code. 26 U.S.C. 280E prohibits tax deductions for business expenses “trafficking in controlled substances (within the meaning of schedule I and II of the Controlled Substances Act) which is prohibited by Federal law or the law of any State in which such trade or business is conducted.” By the letter of 280E, cannabis business are currently stuck with enormous tax burdens. One possible workaround cogently argued by law professor Benjamin Leff is for businesses to apply for 501(c)(4) status as a non-profit social welfare organization. Other loopholes have been proposed, but the only long-term solution, barring an act of Congress, is for the IRS to come out in favor of a narrow 280E interpretation excepting cannabis businesses that are otherwise permitted to operate vis-a-vis federal discretion.

The last true obstacle to legalized and regulated cannabis is, in fact, its Schedule I status under the CSA. As of last fall, a sound majority of Americans support legalization. Support from public officials is also growing, with major Congressional players such as Harry Reid reversing long-held stances in the last week. Despite gradually dismantling institutional barriers, the Obama administration’s recent rhetoric on the issue has been schizophrenic. Leading up to the announcements on liberalized banking, Obama proclaimed that marijuana is less dangerous to the individual user than alcohol. This proposition is inconsistent with the criteria for keeping a substance in Schedule I. Likewise, on January 19, Obama voiced his support for legalization, but the White House quickly reneged.

The future of legalization remains to be seen, but with the Colorado market already running, and Washington following suit this spring, barriers to total regulation are likely on their last legs. As political and fiscal pressure increase, the Obama administration may have to choose between removing cannabis from Schedule I of the CSA, and creating a legal conflict of its own.

Reid Murdoch holds a B.A. in Philosophy and Political Science from St. Olaf College. He has worked for the Public Defender Service for the District of Columbia and will be interning with the ACLU Criminal Law Reform Project the summer of 2014.

Suggested citation: Reid Murdoch, Regulated Cannabis Markets Open; Institutional Barriers Crumble, JURIST – Dateline, Feb. 2, 2014,http://jurist.org/dateline/2014/02/reid-murdoch-marijuana-legalization.php