Marijuana Merchants Owe Taxes Even When They Take a Loss

As we have noted here several
times in the last few years, Section 280E
of the Internal Revenue Code bars state-licensed marijuana
merchants from deducting business expenses on their tax returns.
USA Today reports
that disallowing those deductions can result in an effective tax
rate ranging from 70 percent to 100 percent. Needless to say, that
handicap makes it hard to stay in business.

USA Today describes the predicament of Mitch
Woolhiser, proprietor of Northern Lights Cannabis Co., a
dispensary in Edgewater, Colorado, who last year owed $20,000 in
federal income tax even though he did not turn a profit. “It’s
almost like they want us to fail,” he says. Well, yes, it is
exactly like that, if “they” refers to the members of Congress who
enacted Section 280E in 1982 as way of sticking it to drug dealers.
Woolhiser still qualifies as one of those under federal law, even
though he is licensed by Colorado to sell marijuana.

Counterintuitively, cannabusinesses are allowed to deduct the
“cost of goods sold,” which includes whatever they spend to grow or
purchase marijuana. The upshot, as I explained
in Reason last year, is that a can of coffee in the
break room may not be deductible, but a jar of Lemon Diesel buds on
the shelf is. I say “may not” because marijuana merchants can try
to deduct a portion of their business expenses, including
big-ticket items such as rent, utilities, and wages, by attributing
them to activities other than supplying cannabis. But that tactic,
which is used mainly by medical marijuana dispensaries that provide
ancillary services to patients, is complicated and open to
challenge.

The IRS is
not known for flexibility in dealing with state-legal
cannabusinesses, but it does not have the discretion simply to
ignore Section 280E. USA Today quotes a 2010 IRS
letter to members of Congress who wanted it to stop enforcing
Section 280E in states that have legalized marijuana for medical or
recreational use. “The result you seek would require the Congress
to amend either the Internal Revenue Code or the Controlled
Substance Act,” the IRS said. That is not quite true, since the
executive branch has the power to reclassify marijuana under the
Controlled Substances Act without new legislation from Congress.
Since Section 280E applies only to substances in Schedule I or II,
moving
marijuana to Schedule III or lower would make it much easier
for cannabusinesses to pay their tax bills.