Causing a day-long, double-digit cannabis stock surge peaking at 40.56% on Aug. 30, the U.S. Department of Health and Human Services (HHS) recommended that the U.S. Drug Enforcement Administration (DEA) reschedule marijuana from Schedule I to Schedule III of the Comprehensive Drug Abuse Prevention and Control Act of 1970, 21 U.S.C. §§ 801, Et. Seq (1970) (Controlled Substance Act).

Although the final decision rests with the DEA, if cannabis is reclassified to Schedule III, marijuana growers, processors, transporters or sellers will cease being encumbered by onerous operating and taxing obstacles to become significantly more profitable; federal funded cannabis research will finally occur; and investment in marijuana related businesses (MRBs) will soar. 

Impact of cannabis’ murky legality and scheduling 

While legal in 38 states and projected to generate $33.5 billion in legal sales this year, the Controlled Substance Act currently lists marijuana next to heroin as a Schedule I controlled substance having "a high potential for abuse" and for which there's "no currently accepted medical use in treatment" and "a lack of accepted safety for use" "under medical supervision." 21 U.S.C. §812(b)(1). 

Tetrahydrocannabinol (THC) is marijuana’s psychotropic effect-producing component, and whether deemed “medical” (purchasable only with state-issued card to treat resident’s statutorily defined “covered medical condition”) or adult-use (purchasable by anyone over 21 from any state with a valid identification), cannabis takes four forms: 

  • Flower that is smoked
  • Oils ingested by vaporizing
  • Concentrates only consumable after being heated to a high temperature
  • Infused products ranging from eye drops to edibles  

With few exceptions, medical and adult-use cannabis items are identical and only delineated by their purchasers: medical card patients or adult-use consumers.

The Controlled Substance Act prohibits marijuana's cultivation, distribution, dispensation and possession, and pursuant to the U.S. Constitution's Supremacy Clause, state laws conflicting with federal law are generally preempted and void. U.S. Const., Art. VI, cl. 2; Wickard v. Filburn, 317 U.S. 111, 124 (1942)(”[N]o form of state activity can constitutionally thwart the regulatory power granted by the commerce clause to Congress”).

Pursuant to The Controlled Substance Act, the DEA “schedules” drugs from most perilous – Schedule I – to least harmful – Schedule V – based on three factors:

  1. Potential for abuse: How likely is this drug to be abused
  2. Accepted medical use: Is this drug used as a treatment in the United States
  3. Safety and potential for addiction: Is this drug safe, how likely is it to cause addiction and, if so, what kinds of addiction?

Beyond making cannabis 100% federally illegal and preventing it from being sold outside of each respective legalized-marijuana state (i.e., no “interstate cannabis commerce”), Schedule I classification both precludes any federally funded cannabis research and imposes heinous tax consequences on MRBs.

Specifically, under Section 280E of the Internal Revenue Code, state-legal MRBs are forbidden from taking any tax deduction or credit other than “cost of goods sold.” 26 U.S. Code §280E (1982). Thus, unlike every other legitimate industry, MRBs are denied ordinary and necessary business expense tax deductions (ex., wages, rent, utilities and insurance), causing them to incur greater expenses and be less profitable.

Seismic Impact of reclassifying cannabis

If the DEA reclassifies cannabis from Schedule I to Schedule III, federally-funded cannabis research will finally occur, MRBs will cease being encumbered by 280E and become considerably more profitable, and investment in MRBs will sky-rocket. 

First, reclassifying to Schedule III indicates that federal government deems cannabis to have “moderate to low potential for physical and psychological dependence” (and not Schedule I’s “no current medical use with high potential for abuse and/or addiction” stigma), opening the floodgates for federally funded research. Use-in-treatment data from 38 state’s medical markets and a staggering body of international scientific literature already supports cannabis’ medical efficacy and treatment for conditions ranging from cancer and post-traumatic stress disorder to opioid use mitigation. Federally approved and funded research will both enhance public acceptance of cannabis medical application and deploy the feds’ nearly infinite resources like those of the U.S. Food and Drug Administration (FDA).

Budgeted at $6.1 billion, the FDA protects and promotes public health through supervising food safety, tobacco products, dietary supplements, prescription and over-the-counter pharmaceutical drugs, cosmetics, animal foods and feed, and veterinary products. Federal Food, Drug, and Cosmetic Act, 21 U.S.C. 301, et seq. Reclassifying to Schedule III will empower the FDA to regulate those growing, processing, selling or transporting cannabis and promulgate uniform standards and prohibitions. 

Second, reclassifying to Schedule III will remove 280E’s prohibitions and allow MRBs to take ordinary and necessary business expenses tax deductions resulting in cost reduction, ease of operations and increase of profit.

Third, as a result of federally funded research, wider public acceptance and higher profitability, reclassifying to Schedule III will enhance cannabis investment. While not likely to mirror the stock surge on Aug. 30, reclassification will enhance the valuation of an industry beset by a lack of investment capital, a mishmash of 38 conflicting regulatory bodies, and an inability to meet exceedingly optimistic performance goals. 

Path to cannabis Schedule III classification

While reclassification to Schedule III will not remove cannabis’ federal illegality, it is a significant step toward ending prohibition and bolstering a nascent industry.  

The final determination rests with the DEA, which based on an eight-factor analysis, will weigh whether the HHS scheduling recommendation, scientific and medical evaluation, and all other relevant data constitute substantial evidence that marijuana should be reclassified to Schedule III.

If determining that rescheduling is appropriate, the DEA will issue a proposed rule followed by a notice and comment period.