High taxes on legal marijuana in California could have the potential to turn many consumers away from the state’s cannabis shops and toward the black market, according to a report from Fitch Ratings.

The credit rating agency estimates state and local taxes on marijuana, which will become legal in California on Jan. 1., could be as high as 45 percent in some cases. It would trail only Washington state, which levies a 50 percent tax on marijuana.

“The existing black market for cannabis may prove a formidable competitor to legal markets if new taxes lead to higher prices than available from illicit sources,” the report says.

[related_articles location=”left” show_article_date=”false” article_type=”automatic-primary-section” curated_ids=””]Recreational marijuana will be taxed on both the state and local level, contributing to the potential for high rates. California will impose a 15 percent excise tax, as well as cultivation taxes. Municipalities will also levy sales tax and a business tax, which could be anywhere from 1 to 20 percent, on gross receipts. Business taxes on recreational marijuana have been approved by voters in 61 California cities and counties, according to the report.

These high tax rates have the potential to drive customers toward the black market. The state is the nation’s epicenter of marijuana growing and has long provided black market pot. The report states that Colorado, Oregon and Washington all reduced tax rates after the commencement of legalization to shift customers back toward the legal market.

California will implement a statewide framework for marijuana legalization, but each municipality must decide whether it wants to house marijuana businesses and, if so, map out its own regulations and tax structure. This may lead to a playing field that is not level in terms of tax revenue. Some cities like Adelanto, about 85 miles northeast of Los Angeles, are using the cultivation of marijuana as an economic development strategy. In Monterey County in northern California, the local government is encouraging cannabis growers to use its vacant greenhouses.

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The report says that legalization brings extremely high stakes for parts of the state, including the so-called Emerald Triangle in northern California. Trinity, Shasta and Mendocino counties encompass the triangle, which has long been the U.S. marijuana-growing mecca. The report said legalization could do what many small farmers fear: create large-scale marijuana farms that undercut the small, often family-run operations that have proliferated in the region for decades.

If other new marijuana markets are an indication, California will likely start with high sales that gradually slow over time. The report cites Colorado’s Legislative Council Staff, which estimates 44 percent revenue growth from marijuana in the 2016-17 fiscal years, slowing to 25 and 10 percent increases in the subsequent years.

One issue in California, however, is that both the state and many municipalities have not released their regulations, leaving businesses in limbo just weeks before legalization. Some cities, including San Francisco, have admitted they will not have their regulations in place for the start of legalization on Jan. 1.

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