Federal Marijuana Legalization Could Generate $111 Billion and Reshape a $100 Billion U.S. Market, Yale Study Finds

Federal marijuana legalization could generate tens of billions of dollars in new tax revenue over the next decade, and potentially more than $111 billion if legalization ultimately extends across all 50 states, according to a new analysis from The Budget Lab at Yale University.

The researchers argue that legalization could shift a significant share of an estimated $100 billion U.S. cannabis economy out of the illicit market and into the formal tax system, while eliminating Section 280E for legal operators and potentially creating additional income and payroll tax revenue that is not included in Yale’s headline projections.

Under Yale’s first scenario, federal legalization combined with a new federal cannabis excise tax would generate an estimated $57.9 billion over 10 years while states maintain their current marijuana laws.

A more expansive scenario, in which the federal government legalizes marijuana and every remaining prohibition state follows, would generate $111.3 billion over the same period.

According to the researchers at Yale, the $111.3 billion figure represents the potential revenue under a nationwide legalization scenario.

Yale Models a Federal Tax Based on THC

Rather than taxing cannabis based on its retail price, The Budget Lab modeled a federal excise tax tied directly to potency.

The proposed rate is $0.00625 per milligram of THC, collected from producers when products move to retail. Yale estimates that would translate into approximately $1.31 in federal tax on one gram of marijuana.

Using an average price of $8.59 per gram, the researchers estimate the tax would increase the tax-inclusive price by approximately 15%.

The approach resembles the way federal excise taxes on alcohol and tobacco are structured around the quantity or potency of the underlying substance rather than simply the final retail price.

If implemented beginning in 2027, Yale estimates the tax would initially generate about $5.5 billion annually under federal legalization with existing state laws intact. If every state legalized, first-year revenue would rise to approximately $10.5 billion.

A $100 Billion Cannabis Market — With 75% Still Illicit

Perhaps the most consequential part of the analysis is not the excise tax itself.

Citing data from Whitney Economics, Yale says the combined legal and illegal U.S. cannabis economy is approximately $100 billion, with roughly 75% of the market still operating illicitly.

About two-thirds of that illegal supply is believed to be domestically grown.

That means legalization would not simply create a new federal tax on cannabis already being sold through licensed dispensaries. It could potentially change which portion of the broader cannabis economy participates in the formal tax system.

“Federal legalization could result in a large-scale transfer of economic activity from the untaxed underground economy into the tax-compliant legal market,” the researchers wrote.

The report notes that illicit operators currently avoid many of the costs borne by licensed businesses, including compliance expenses, licensing fees, state excise taxes and the federal tax burden created by Section 280E.

Federal legalization could remove restrictions involving banking, interstate commerce and formal employment relationships, potentially reducing some of the structural advantages enjoyed by illicit operators.

The size of that transition, however, is one of the biggest uncertainties in Yale’s model.

The researchers note that successfully moving even one-quarter of the estimated illicit market into the legal economy would create a dramatically larger taxable base than a scenario in which high federal taxes instead encourage consumers to remain in the illicit market.

The $111 Billion Estimate Doesn’t Include Everything

The excise-tax projections also don’t capture every potential source of federal revenue.

Legalization could bring workers currently employed in the illicit cannabis economy into formal employment, creating additional federal income and payroll tax collections.

For employees absorbed into licensed cannabis companies, that could mean W-2 wages subject to federal income tax withholding and FICA taxes. Independent cultivators, delivery operators and other owner-operators entering the regulated market could instead become self-employed taxpayers or operate through pass-through entities.

Yale cites a Tax Foundation estimate suggesting that income and payroll taxes associated with a legalized marijuana industry could generate approximately $1.5 billion annually.

The Budget Lab says that estimate may understate the potential gain because it was developed using narrower market assumptions and does not fully capture the scale of illicit-market conversion modeled in its analysis.

Yale ultimately excludes those additional effects from its own revenue estimate because of uncertainty around how many workers and businesses would actually transition into the formal economy.

In other words, the $111.3 billion is an excise-tax estimate, not an estimate of every potential federal tax dollar associated with nationwide legalization.

Legalization Would Also Eliminate 280E

Section 280E of the Internal Revenue Code prevents businesses trafficking Schedule I or II controlled substances from deducting ordinary business expenses for federal income tax purposes.

For cannabis companies, that can include expenses such as rent, payroll, utilities, marketing, and insurance. Cost of goods sold remains deductible, but companies can otherwise find themselves paying federal taxes on a substantially inflated taxable base.

Yale notes that the resulting effective federal income tax rates can significantly exceed the normal 21% corporate rate.

Under either legalization scenario modeled by The Budget Lab, 280E would disappear.

That would reduce the federal tax burden on licensed operators even as the government begins collecting the new cannabis excise tax envisioned by the study.

It also creates an important tension in estimating legalization’s fiscal impact: legalization could generate new excise revenue and bring previously illicit economic activity into the tax system, while simultaneously allowing existing legal cannabis businesses to claim deductions currently prohibited under 280E.

Yale does not attempt to quantify the full effect of that transition because it lacks sufficient data to model how businesses would respond.

Legal Cannabis Could Reach Nearly $40 Billion Without Federal Reform

The study also offers a baseline for what happens if Washington does nothing.

Using state tax revenue data, The Budget Lab estimates that the U.S. recreational cannabis market generated roughly $25 billion in sales in 2024.

If no additional states legalize marijuana and federal prohibition remains in place, Yale projects that recreational sales would nevertheless approach $40 billion by 2035.

Medical marijuana represents a smaller portion of the market, accounting for roughly 20% of total formal cannabis activity and an estimated $5 billion to $8 billion in annual sales between 2024 and 2035.

The Biggest Variable Is What Happens to the Illicit Market

The Budget Lab repeatedly cautions that its projections carry an “unusual degree of uncertainty” because cannabis remains illegal federally while state policies vary dramatically.

Consumer behavior after legalization, the tax rate imposed by Congress, the number of illicit businesses entering the regulated system, and the response of states that still prohibit recreational marijuana could all substantially alter the final numbers.

That makes $57.9 billion and $111.3 billion scenarios rather than promises.

But Yale’s analysis puts a number on a larger economic question surrounding federal cannabis reform.

The federal government would be deciding how much of a roughly $100 billion economy can be moved into the formal market, and how heavily that market should be taxed once it gets there.