Schedule III Classification Offers New Opportunities For The Pre-Roll Industry

The road to cannabis legalization has been long, and the journey isn't over yet. Currently, 46 states have legalized or decriminalized marijuana to some degree, but it remains illegal at the federal level.

However, Americans are getting closer to the prize thanks to a proposal to reclassify marijuana from a Schedule I to a Schedule III drug. What does this mean for the pre-roll industry? They've already proven to be a successful addition to the industry, with pre-rolls now accounting for 15% of the market as supply increases and prices decline. Here's what you need to know about potential benefits and how to strategize accordingly.

What Does Reclassification Mean for Marijuana?

Since the Controlled Substances Act (CSA) was enacted in 1970, cannabis has been classified as a Schedule I drug. This puts it in the same category as illicit drugs like heroin, LSD and ecstasy and defines it as a drug with high potential for abuse and "no currently accepted medical use." 

The Justice Department, recognizing the views of the Department of Health and Human Services (HHS) that marijuana does have accepted medical uses, announced in May that the attorney general submitted a proposal to reclassify marijuana as a Schedule III drug.

If approved, this proposal would place marijuana in a category alongside prescription drugs like Tylenol with codeine, testosterone and anabolic steroids. 

Schedule III drugs not only have accepted medical uses but also have a lower potential for abuse than Schedule I and II drugs, along with moderate to low potential for dependence (physical and psychological).

How long will it take for rescheduling to occur? There's no set timeline, but the Justice Department started the process by submitting the proposal and notifying the public.

From there, the public can submit commentary to the Drug Enforcement Agency (DEA), which the agency will consider before making and publishing a final ruling concerning scheduling. The 62-day window for public commentary ended July 22, 2024, but there is no timeline for review.

New Financial Landscape

The major benefit of reclassification is that cannabis will no longer be subject to Internal Revenue Service (IRS) Code Section 280E. This section of the tax code essentially states that businesses selling Schedule I or II substances cannot take deductions or credits for any part of their business, including ordinary and necessary expenses.

Financial Benefits Related to Section 280E

Even if your pre-roll business operates legally within your state, this rule means you pay more taxes than the average business. 

In 2022, this increased tax burden equated to over $1.8 billion in excess taxation across the cannabis industry, with tax rates commonly exceeding 70%. As a result, less than 25% of cannabis companies reported profitability.

If marijuana becomes a Schedule III substance, Section 280E will no longer apply, which will have a major impact on how you file taxes. You can claim deductions and credits that significantly reduce your tax burden, allowing you to retain much more income.

In addition, you could file amended tax returns to reclaim deductions for any returns within the statute of limitations. The scope will depend on the effective date and whether it's retroactive.

Is Increased Access to Banking Services Possible?

Currently, banking organizations deem cannabis businesses as high risk for impacting FDIC insurance status. Will that change under the Schedule III classification, which applies to legal prescription substances?

The answer is maybe. It's important to understand that doctor recommendations for cannabis that are legal at the state level are not the same as federally legal prescriptions, and this presents some barriers.

Research and development could lead to the formulation of prescription cannabis drugs that go through the vetting process to be approved by the FDA. This approval would mean they could be sold in pharmacies instead of dispensaries. 

In that case, there is some potential for legal validation that might sway banking institutions. However, that's a lot of ifs, so the value of this possible benefit remains to be seen.

Immediate and Long-Term Benefits for Businesses

With a reduced tax burden, cannabis businesses will immediately retain more income. This extra cash could be funneled into product development, equipment upgrades, higher-quality inventory and expansion.

It may also draw investors and encourage new business launches, increasing competition that drives access, innovation and consumer choice. 

Finally, opportunities to develop FDA-approved prescription drugs could help legitimize the industry, potentially attracting new customers, increasing access to banking services and bringing cannabis one step closer to federal legalization.

Financial Benefits for Consumers

Businesses won't be alone in enjoying financial benefits if marijuana is reclassified. When the tax burden on sellers is reduced, savings could be passed along to consumers.

Consider that a typical pack of 20 cigarettes costs about $8 in the U.S., or about $0.40 per cigarette. Since a pre-roll joint costs anywhere from $5-$20 or more, a 20-pack could set consumers back $200.

A New Market for Products and Consumers

Cannabis has been widely recognized (including by HHS and the Justice Department) as having greater medical value and less potential for abuse and dependence than suggested by its current CSA classification. Reclassification to Schedule III would open the door to a range of benefits for cannabis businesses and consumers.

New Products

One of the greatest potential detriments of marijuana being classified as a Schedule I substance is that opportunities for research and development have been severely restricted. The hurdles required to gain approval for research are cumbersome.

Researchers must register with the DEA and gain approval from an institutional review board. This alone can take years, but the added difficulty of obtaining grant funding is scarce.

Even if researchers overcome these challenges, most lab facilities don't meet DEA standards for security and must undergo significant and expensive modification. Then, there are the difficulties of legally requesting and obtaining Schedule I substances for research purposes.

In other words, researching everything from the makeup of different strains to the effects of different cannabinoids on the human body is exceedingly difficult. 

Reclassification would loosen restrictions and open the door to new research and development, potentially resulting in greater understanding, new products and increased quality.

New Customers

Reclassification of marijuana stands to benefit not only businesses but consumers as well. Existing customers could enjoy greater product diversity, efficacy, and cost reduction.

It might also attract new customers who may currently hesitate to try medical or recreational marijuana. This, in turn, could increase demand industrywide, and there's some potential for increased interstate commerce. 

Businesses intent on expansion will want to grow their loyal customer base before new competition floods the market.

Innovation and Consistency

Because cannabis legislation varies from state to state, regulations are somewhat spotty. However, with greater research and development potential, likely leading to new product innovation and increased competition, quality, consistency, and compliance will become more important.

How can your pre-roll business remain competitive? You can start by implementing rigorous quality controls, seeking certification, offering transparency and choosing like-minded vendors like HARA Supply.

Reclassification Is Good for Businesses and Consumers

Although it's unclear when the reclassification of marijuana from a Schedule I to a Schedule III drug could be approved, those in the pre-roll industry must prepare for the changes it could bring about. 

With opportunities to benefit from a reduced tax burden, increased product development and new customers, you stand to gain a lot, but only if you prepare for the probable increase in competition.

Capitalizing on marijuana reclassification means launching strategic initiatives to position your business for future success. HARA Supply is the reliable, established pre-roll supplier you need. Contact us now to learn more.