[co-author: Grace Mangan]
It’s not always bad news when cannabis operators interact with the federal government. After all, the federal government largely allows marijuana companies to operate in an overwhelming majority of states without federal interference even though marijuana is classified as a Schedule I substance under federal law.
But there does seem to be a common theme when it comes to marijuana companies dealing with tax regulators and courts. In multiple instances, the U.S. Tax Court has denied tax deductions or other 280E exceptions to marijuana businesses and even marijuana-adjacent businesses (see Alternative Health Care Advocates v. Commissioner of Internal Revenue, 151 T.C. No. 13 (2018) (holding that an S Corp organized to pay employee wages of a medical marijuana dispensary was subject to 280E restrictions); Patients Mutual Assistance Collective Corporation v. Commissioner of Internal Revenue, 151 T.C. No. 11 (2018) (denying deductions for non-marijuana activities because they were not economically separate from the marijuana business)). Maybe the gist is that the Feds will let you operate a marijuana business but they’re darn sure gonna collect those tax dollars.
In the latest case, the U.S. Tax Court just ruled that marijuana business wages are not eligible for business income deductions typically available for pass through S corps. In most instances, owners of pass-through corporations (S corps, partnerships) will have a tax rate deduction available. A new tax court ruling reduces the amount of deduction available for marijuana pass-through corporations, placing already disadvantaged business owners even further behind.
We confront our old friend 26 U.S.C. 280E again. Under IRC Section 199A, business owners of sole proprietorships, partnerships, and S corporations are afforded a tax deduction, calculated and limited by a couple of factors. A recent tax court ruling just held that the deduction under 199A must be interpreted in light of 280E if you own a marijuana business. Section 280E forbids businesses from deducting ordinary business expenses associated with trafficking a Schedule I substance, including marijuana. It prevents marijuana business owners from taking deductions for business expenses that nearly every other type of business can benefit from.
The gist of the recent ruling: If wages are disallowed as deductions under Section 280E, they cannot be included as W-2 wages for purposes of calculating the Section 199A qualified business income deduction. This means a lower deduction rate for businesses subject to 280E, i.e., marijuana.
What Was the Case About?
Savage v. Commissioner of Internal Revenue, 165 T.C. No. 5 (Sep. 11, 2025)
The case dealt with two shareholders who had claimed qualified business income under 199A, reporting W-2 wages without considering whether those amounts were deductible under 280E for their marijuana businesses.
Background
- IRC Section 199A: allows certain taxpayers to deduct up to 20% of their qualified business income from sole proprietorships, partnerships, or pass-through corporations. But, for taxpayers above a certain income level, the deduction is limited by the amount of W-2 wages paid by the business.
- 26 U.S.C. 280E: Need we say more? We have many times opined on the hurdle that 26 U.S.C. 280E poses to marijuana business. It cripples the industry by exacting a tax rate north of 60% for some operators.
The court held that in order to calculate the deduction for 199A properly, the nondeductible wages subject to 280E are not allocable as qualified business income. This creates a limitation on the rate deduction that marijuana business owners are granted.
Simply put: If 280E says you cannot deduct it, then you also cannot use it to support your qualified business income for tax rate deduction purposes.
What more is there to say? Another day, another tax hurdle for marijuana operators.
