CO legalizes marijuana
CO legalizes marijuana

Colorado's govenor John Hickenloper has estimated that annual sales and excise taxes on the state's legal marijuana market will bring in as much as $134 million in tax and fee revenue next year.  The figure is well above projections, and the Governor and many others in the state are happy.  Hickenloper, as well as CO Senator MIchael Bennet, both hail from Wesleyan University, my alma mater and the land of West Co. and Zonker Harris Day.  From this shared vantage point, it is easy to see how the ability to spin pot into gold, rather than just dodging the smoke clouds, is something to be celebrated.

But while Colorado may be fairly unique in terms of its approach to marijuana laws, it is hardly unique in its embedded subsidies to fossil fuels.  So why link marijuana and energy?  Sure, there is the push to make hemp biofuel (with a logo that probably had the Shell executive suite spinning), but that connection still has some ways to go before it is policy relevant. 

Rather, it is this:  there are important fiscal linkages on the tax and revenue side.  Far too many state officials (well beyond Colorado, and including my home state of Massachusetts) have failed to look at tax exemptions to fossil fuels in their quest for better policy and more state revenues.  They celebrate new sources of tax revenue without looking to see what old subsidies might be in need of review.

Some of Colorado's tax breaks to fossil fuels date back nearly a century; many more are decades old.  Often they were created during times when developing natural resources was paramount, demand-side management was not even a concept, and the environmental costs of fossil fuel extraction could be (and generally were) entirely ignored.  It is not a leap to suggest that maybe the logic that drove the creation of these policies no longer applies to the world we live in now.

Of all states, Colorado ought to be one of the first revisiting this aspect of its tax code.  CO has a very big tourism industry, driven in large part by the state's natural beauty.  And it is the home of the Rocky Mountain Institute, whose founder Amory Lovins has spent his career demonstrating that conservation and energy efficieny are big energy resources, formidable competitors to conventional supply, and often a far more competitive choice to simply producing more and more fossil energy.  It's a shame that these residual tax breaks tip markets in the opposite direction.

1) Money:  eliminating the fossil fuel subsidies will generate more state revenue than the marijuana fees do; and provide environmental gains as well

Exemptions from energy sales and use taxes have been in place for so long that people stop questioning whether they make sense and whether there are less costly ways to meet the objectives for which the exemptions were granted.  Certainly there is a humanitarian benefit and social responsiblity to ensure that the poor stay warm in winter.  But exempting all energy consumers in the state from sales and use taxes is hardly a savvy way to meet that goal.  Ensuring the poor have access to energy services can be far more efficiently achieved through narrowly targeted purchase or efficiency subsidies.  Providing special exemptions to all energy consumers simply weakens the incentives to deploy non-fuel energy resources (such as wind or solar) and to invest in energy efficiency and conservation. 

Knowing the financial trade-offs is an important part of policy change, yet Colorado was one of the last states in the country even to track tax subsidies.  Finally, in January 2013, the state released its first tax expenditure budget.  This is a very important step forward, though unfortunately came just a bit too late to assist in our review of CO fossil fuel subsidies for OECD.  The tax expenditure report, and the accounting systems behind it, should help Colorado invest its tax breaks more effectively going forward.

Marijuana taxes and fees, 2014:  $134m
CO tax breaks to fossil fuels, 2011:  $564m

The revenue cost of the state's fossil fuel subsidies is big, as shown in the table below.  While pot proceeds are expected to bring in as much as $134 million, fossil fuel subsidies cost the state Treasury more than $560 million in 2011 -- four times as much.  And that doesn't even include the increasing number of oil and gas-related Master Limited Partnerships that are bypassing not only federal corporate income taxes, but state corporate income taxes as well.  MLPs tend not to show up in tax subsidy accounting at all, though the tax-favored corporate form is dominated by firms in the fossil fuel sector.

2) Only net tax receipts, after offsetting cost increases, represent a gain to the state

There are some lessons from Colorado's tax policy with respect to fossil fuels that may be useful in evaluating the marijuana tax windfall as well.  A central one is not to focus on the top-line number of gross tax collections.  Tax revenues from pot need to be evaluated on a net, not a gross, basis because Colorado has a history of earmarking tax revenues to support industry-related activities rather than general state spending.  In some cases, they levy one tax, but then credit that amount back against another.

An interesting example is with the Colorado ad valorem tax on oil and gas, which is basically a severance tax.  For some reason, they decided it would be a good idea to allow property taxes on oil and gas operations to be credited against state severance taxes.1 The result has been to reduce the actual severance taxes paid into state coffers almost to zero.

With the marijuana taxes, the Governor has allocated much of the revenue to drug-related expenditures (youth use prevention, substance abuse treatment).  These are important programs and address what is a significant challenge in many states.  But to the extent the problems are made worse by the increased availability of marijuana, the reported contribution that marijuana taxes make to the core functions of running the state should be reduced accordingly.

3) Even pot markets will become more competitive, constraining tax receipts

Even with marijuana sales, one should not assume the boom times will continue indefinitely.  While the next few years may generate increased pot tax receipts due to the novelty of the policy and the lack of competitors, this is unlikely to last.  As with the early states to adopt casino gambling, there is an initial surge of activity and associated tax revenues.  However, as more and more states enter the market, the industry becomes more price-competitive and sales are spread amongst more taxing jurisdictions.  Although lower prices may prop up demand to some degree, tax take per transaction is still likely to fall with prices; and any expanded use from lower prices will be likely to drive up the social costs to which the pot tax proceeds need to be directed.  Both factors suggest net tax revenues from the industry are likely to be flat or decline over time.

If the long-term net tax from marijuana sales is subject to a variety of forces that will keep it relatively low, the benefits of fossil fuel subsidy reform look even better in comparison.  The table below highlights places to start.  A PDF version of the table is available here.


Colorado tax breaks to fossil fuels greatly exceed new revenues from marijuana sales

CO Expend. ID,
Statute Citation

Year Enacted

Tax Expenditure Description


Revenue Impact


Revenue Impact



Fuel Excise Taxes



Two percent allowance





Covers administrative costs of the taxes and losses during transfers.  Both should be lower today than when provision was first implemented 81 years ago, offering space for reform.




Dyed diesel fuel



Primarily associated with exemptions for home heating oil. 



Government agencies fuel tax exemption



Motor fuel excise taxes around the US mostly support road construction and maintenance.  Government vehicles are using these systems, but not paying into them.  Many states have this issue.



Gasoline and special fuel tax exemptions



While exempt uses are often off-road (waterways, ag use, rails, or aviation), many of these uses also require government oversight or infrastructure.  Federal taxes are not waived for airplane and boat consumers, but support related infrastructure rather than highways.

Sales and Use Tax Exemptions 1/



Energy used for industrial, manufacturing, and similar purposes



Temporary repeal in effect for 2011.  Tax exemption reduces incentives to invest in efficiency and conservation.



Gas and electric services when deemed a wholesale sale



Distortionary effect should be small if fuels are taxed at point of final consumption.  However, exemption includes fuels used in power sector, so disadvantages no-fuel renewables (e.g., wind, solar).  CO should be able to generate a revenue impact estimate for next report.



Gasoline and special fuel



Many states have both sales and excise taxes on fuels.  Sales taxes can rise with fuel prices and inflation, a big political challenge for excise taxes.  Excise taxes also usually absorbed entirely on related infrastructure (i.e., roads), leaving no funds to contribute to general state needs.



Fuel for residential heat, light, and power



Most things people buy incur sales taxes.  This exemption places conservation and efficiency at a disadvantage to polluting fuels in meeting consumer demand for energy services.

1/ All expenditures in this category are estimates.
2/ Not available.

3/ Only available as a refund of sales tax paid if the total general fund for a particular fiscal year will be sufficient to increase the total general fund appropriations by 6% over such appropriations for the previous fiscal year.

4/ Amount combined with another exemption.
5/ Non-disclosable.

Severance Tax Exemptions, Credits, and Deductions



Deduction for oil and gas transportation costs



CO ought to be able to estimate tax losses here.  All extraction should incur severance taxes, regardless of whether producers use it onsite or sell it.



Deduction for oil and gas processing and manufac- turing costs







Same as above.



Oil shale equipment and machinery deduction



Supports kerogen deposits (currently uneconomic), not fracked shale.  No activity. 



Oil shale fragmenting, crushing, conveying, beneficiating, pyrolysis, retorting, refining, and transporting deductions







No activity. See above.



Oil shale royalty payment deduction



No activity.  See above.



Deduction for oil and gas stripper well






Small gas and oil wells are entirely exempt from severance taxes.  Not sure why CO has no data on this.



Oil and gas ad valorem credit



Most of property taxes paid to county and local governments can be credited against state severance taxes.  This eliminates most of the state liability, resulting in resources effectively being given away.



Tax exempt coal tonnage



First 300,000 tons of any type of coal produced each quarter pays no severance tax.



Underground coal production credit



Goal is to support higher cost coal sites.  Given the carbon footprint and environmental damage, CO ought to be able to find better job creation venues.



Lignitic coal production credit



50% reduction in severance taxes.  Zero value suggests no current activity.



Oil shale tonnage/ barrels exemption



Applies to kerogen deposits, not fracked shale.  No activity.



Impact assistance credit



Allow firms driving up costs from their oil and gas activities to make payments to those governments and get equal credit from state severance taxes.  Either no activity, or all severance taxes already offset by property tax credits.  Norm would be to have both fees.







1/ Not available
2/ Not disclosable

Colorado Department of Revenue, Colorado Tax Profile and Expenditure Report 2012, January 2013. 

Doug Koplow and Cynthia Lin, A Review of Fossil Fuel Subsidies in Colorado, Kentucky, Louisiana, Oklahoma, and Wyoming, (Cambridge, MA: Earth Track, Inc.), December 2012.  Prepared for the Organisation for Economic Cooperation and Development.

  • 1Property taxes are levied by local governments on tangible property. Severance taxes compensate governments for the permanent loss of natural resource deposits within its geographic boundaries.  In addition to crediting property tax payments, the valuation method for tangible property used in CO also provides discounts to specific sectors, including fossil fuels.