The well-being and safety concerns of people are the main reasons why certain industries are more regulated than others. When it comes to the term “highly regulated,” heavy government involvement and extra compliance measures are often focused on challenging the concentrated economic and political powers as well as regulating high-risk and high-trust industries. Industries such as oil and gas, pharmaceutical, and banking have dealt with regulations for a long time. Others, like credit rating agencies, have seen increased regulations following the financial crisis in the early 2000s and the passage in the United States of the Sarbanes-Oxley Act in 2002.
Two emerging industries becoming highly regulated are cannabis and self-driving cars. While self-driving cars are something that big companies such as Tesla and Google are pursuing, the cannabis industry in the U.S. is one in which small businesses are attempting to participate. Yet many of these struggle with the regulatory challenges in the cannabis space.
The biggest challenge for cannabis companies is that cannabis business activities remain federally illegal. This results in complex tax rules and a scarcity of the traditional capital resources available to other industries.
Cannabis businesses face regulatory scrutiny related to product packaging, lab testing, advertising, and insurance. All of these challenges lead to compliance difficulties and add to the cost of doing business, making it more difficult for small businesses to withstand competition from illicit markets and bigger businesses.
Drugs and other substances that are considered controlled substances are regulated by the U.S. government through a federal statute called the Controlled Substances Act (CSA). CSA places various substances in one of five schedules based on their medical use, potential for abuse, safety, and risk for dependence.
As a Schedule I drug, cannabis is subject to Internal Revenue Code §280E, which states that businesses selling it can’t deduct any expenses incurred in the production, distribution, or sale of that product. This means that cannabis companies pay taxes based on gross profits and can’t deduct typical general and administrative expenses.
Fortunately, regional banks and credit unions are now filling the void left by large, federally insured banks that are unwilling to provide banking services to cannabis operators. And more FDIC-insured banks are getting involved, albeit very carefully, with legal cannabis and cannabis-related businesses.
There is hope for banking relief down the road with the proposed Secure and Fair Enforcement (SAFE) Banking Act, which would allow U.S. depository banks and certain other financial institutions, such as federal and state credit unions, to service cannabis businesses in states that have legalized cannabis. Passed in the House of Representatives, the bill will also help alleviate lending obstacles to cannabis companies.
Because of its status as a Schedule I drug, cannabis is highly regulated even in states in which it’s legal. But state-by-state regulations vary and can be confusing.
Packaging. Whether for recreational or medicinal use, each state has different packaging and labeling requirements. The basic requirement for cannabis products is to have child-resistant packaging, including having an unattractive appearance for children, a resealable feature, and an informational label.
Each variation of cannabis products has its own unique packaging considerations. In many states, cannabis labels include specific strains of cannabis and cannabis symbols to let consumers know if the product contains THC, the psychoactive substance found in the plant, and whether it’s a medical or recreational product.
Lab testing. Before any cannabis product can be packaged, it needs to be tested in a lab to make sure it’s safe for consumption and to inform consumers of its potency. Cannabis is a challenging product to analyze, with no standardized testing methods and varying rules. For instance, California requires all cannabis products to be tested for cannabinoids, terpene contents, pesticides, and microbial impurities. On the other hand, pesticides are the only category of contaminant specified for testing in Delaware’s rules. Furthermore, compounds vary in cannabis products. For instance, potency levels are different in flowers, edibles, and oils.
Advertising. State laws on cannabis advertising vary from ones that severely regulate cannabis marketing to ones that have no cannabis advertising restrictions. Common restrictions include bans on misleading information, specific parameters concerning building signage, marketing cannabis strains individually, and not appealing to minors. Several states also require approval of all advertising by state officials before launch.
Insurance. Like any other business, cannabis companies need insurance. But unlike other businesses, the federal illegality and emerging nature of the industry creates unique challenges for obtaining coverage. Deciding the insurance needed for a cannabis business is further complicated by the differences in the types of insurance mandated by states and local cannabis regulations.
For example, according to the National Cannabis Industry Association (NCIA), licensed commercial cannabis operators in Colorado aren’t required to obtain any cannabis specific insurance coverage other than what is required for all types of businesses. This is in contrast to Massachusetts, where licensed commercial cannabis operators must maintain general liability insurance coverage as well as product liability coverage, according to the NCIA.
The research article by John Kitching, Mark Hart, and Nick Wilson, “Burden or benefit? Regulation as a dynamic influence on small business performance,” examines the impact of regulation on small business performance. The authors suggested that regulation is a force both “enabling as well as constraining performance, generating contradictory performance effects” (International Small Business Journal: Researching Entrepreneurship, March 2015). The response to regulation is process and product innovation.
In addition, the study stated that regulatory authorities create market opportunities by applying licensing practices to small businesses. For example, licensing practices regulate market entry and the supply of goods and services in professions such as medicine and law, and in sectors such as transport, food production and distribution, entertainment and leisure, and health and care services. Within the cannabis industry, states regulate the issuance of cannabis licenses by establishing strict criteria to qualify for the license and placing importance on social and community plans.
From the standpoint of an individual business, such regulatory influences function directly by authorizing them to operate and indirectly by permitting or prohibiting others to do the same.The resilience, entrepreneurial approach, and responsiveness to challenges are what drives the small business community.