Federal Income Taxation of Medical Marijuana Businesses
Edward J. Roche Jr.
University of Denver Sturm College of Law
August 12, 2013
Tax Lawyer, Vol. 66, No. 2, 2013
U Denver Legal Studies Research Paper No. 13-38
Eighteen states and the District of Columbia have "legalized" the use of medical marijuana. Medical marijuana, however, remains a "controlled substance" under federal law. This puts medical marijuana businesses in a "Catch 22" situation, where their operations are legal under state law but violate federal law. Additionally, because medical marijuana remains illegal under federal law, section 280E denies medical marijuana businesses the ability to deduct their ordinary and necessary business expenses.
Section 280E represents a departure from the longstanding practice of generally taxing illegal businesses in the same manner as legal businesses and effectively causes medical marijuana businesses to be taxed on their gross income rather than their net income. Medical marijuana businesses are, however, allowed to reduce their gross revenue by cost of goods sold in arriving at gross income. This puts medical marijuana businesses in the unusual position of wanting to capitalize as many of their otherwise deductible expenses to inventory as possible, unlike most businesses, which would prefer a current deduction.
Medical marijuana businesses should comply willingly with the full absorption and UNICAP inventory rules, where they are required by law to do so, but most medical marijuana businesses will not be subject to these rules. Nevertheless, a medical marijuana business should voluntarily comply with these rules if not required to do so. Medical marijuana businesses should also take advantage of the provisions under full absorption and UNICAP inventory rules that permit a taxpayer to elect to include certain costs in inventory, including special allocation rules that permit the capitalization of all of an expense if a portion of the expense is subject to capitalization. Further, medical marijuana businesses should capitalize expenses entirely excepted from the full absorption and UNICAP inventory rules, such as on-site storage expenses, as properly allocable to inventory, based on the argument that the exceptions are provided to reduce the burden of these rules but that capitalization nevertheless represents a better reflection of income.
The Article also addresses the dilemma that lawyers and accountants face in providing services to medical marijuana businesses — practitioners could be considered to be "aiding and abetting" a criminal enterprise, subjecting them to federal criminal sanctions. The only two state rulings on whether an attorney can ethically provide advice to medical marijuana businesses under the Model Rules are divided on the subject. Although not free from doubt, practitioners should not run into trouble for preparing the tax return of a medical marijuana business.
Legislative or administrative solutions to the problems section 280E causes medical marijuana businesses appear unlikely given the unwillingness of elected and government officials to openly support the legalization of medical marijuana.
Number of Pages in PDF File: 55
Date posted: August 13, 2013