There’s Always Certainty in Taxes: IRS Issues Tax Guidance for the Marijuana Industry

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During these unpredictable times, there is certainty in taxes. This month the Internal Revenue Service (“IRS”) posted a dedicated marijuana-industry specific webpage providing general tax guidance and FAQs for the predominantly cash-based industry.  The guidance does not signify a change to the existing law but rather reminds marijuana business owners of their responsibility to pay federal taxes.

This IRS guidance is on the heels of a report from earlier this year by the Treasurer Inspector General for Tax Administration (“TIGTA”), aptly titled “The Growth of the Marijuana Industry Warrants Tax Compliance Efforts and Additional Guidance.” In the report, TIGTA recommended that the IRS develop educational guidance to assist marijuana businesses in understanding their tax obligations.

In the recent tax guidance, the IRS confirms that marijuana businesses are subject to the limitations of Section 280E of the Internal Revenue Code. Section 280E explicitly disallows tax deductions or credits for businesses that traffic a Schedule 1 or controlled substance. Although marijuana may be state-legal, on the federal level it is still considered a controlled substance classified as a Schedule 1.  Section 280E greatly impacts the profitability of marijuana businesses, because they are not able to make the same tax deductions or exemptions as other types of businesses.

The model, below, created by the National Cannabis Industry Association, illustrates the disadvantageous impact of Section 280E on a marijuana business:

  Non-Cannabis Business Cannabis Business
Gross Revenue $1,000,000 $1,000,000
Cost of Goods Sold $650,000 $650,000
Gross Income $350,000 $350,000
Deductible Business Expenses $200,000 0
Taxable Income $150,000 $350,000
Tax (30%) $45,000 $105,000
Effective Tax Rate 30% 70%

Source: National Cannabis Industry Association, April 2015

Creating an Impossible Situation for Legitimate Businesses

By way of background, the roots of Section 280E began in 1981 when a convicted cocaine trafficker succeeded in a tax court case with the claim that he should be able to deduct ordinary business expenses from his federal taxes.  The following year, Congress created Section 280E to prevent other illegal drug traffickers from succeeding on the same assertion.

As a result, today, the marijuana industry still feels the burn of Section 280E, despite many cannabis businesses operating legally under state law.

The updated IRS guidance brings clarification to the industry on prevalent questions surrounding the process of paying taxes in cash and applicability of Section 280E to state-legal marijuana businesses.

Other key topics from the IRS’s marijuana guidance on its webpage include:

  • Taxability of Cash Income
  • Payment Options for Paying Taxes in Cash
  • Requirement to File Form 8300 for Receipt of More Than $10,000 in Cash
  • Options for Estimating and Paying Quarterly Estimated Tax Payments
  • Recordkeeping
  • FAQs

The marijuana industry webpage is located under the “Small Business and Self-Employed” section of the IRS’s website.

We encourage marijuana businesses to seek guidance from a trusted attorney with regards to Section 280E best practices and tax compliance.  A knowledgeable attorney may also be able to assist your business by identifying certain applicable deductions and strategies to lessen the unfavorable impacts of Section 280E.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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