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Robert W. Wood, Contributor
I focus on taxes and litigation.Follow
A total of 17 states and the District of Columbia have legalized medical marijuana. But can dispensaries operate like other businesses? Often they can’t. One reason is taxes.
We all know that businesses deduct business expenses. That’s why they pay tax on their net income, not their gross. Business expenses are almost as American as apple pie, but in an almost un-American sounding rule, dispensaries can’t. Why?
Section 280E of the tax code denies deductions for any business trafficking in controlled substances. This black letter rule was meant to stop drug dealers claiming tax deductions but hits medical marijuana too. Sure, state law may allow medical marijuana, but federal law still classifies it as a controlled substance. Dispensaries are impacted, including California’s massive Harborside Health Center.
The IRS and Tax Court must abide by Section 280E of the tax code. However, the U.S. Tax Court has allowed dispensaries to deduct other expenses distinct from dispensing marijuana. See Californians Helping to Alleviate Medical Problems Inc. v. Commissioner. If a dispensary sells marijuana and also engages in the separate business of care-giving, the caregiving expenses are deductible.
If only 10% of the premises is used to dispense marijuana, most of the rent is deductible. Still, good record-keeping is essential. See Medical Marijuana Dispensaries Persist Despite Tax Obstacles. That was one of the issues facing Martin Olive.
He set out to sell legal medical marijuana, calling his business Vapor Room. Vaporizers are expensive equipment that extract marijuana’s principal active component so users can inhale the vapor rather than smoke. The IRS audited Mr. Olive and presented a big bill.
Mr. Olive went to Tax Court, but it agreed with the IRS. Olive under-reported his gross receipts and, with only one business, Section 280E precluded his deductions. He owed back taxes and penalties. See Olive v. Commissioner. The only good news was that the court permitted him to deduct his cost of goods sold–the marijuana he bought and resold.
The court didn’t believe Mr. Olive, calling his testimony rehearsed, insincere and unreliable, and noting:
“We also do not rely on the uncorroborated testimony of petitioner’s other witnesses, three of whom are (or were) patrons of the Vapor Room and all of whom are closely and inextricably connected with the medical marijuana industry and with a desired furtherance of that movement.”
More legal battles–tax and otherwise–seem certain.
Robert W. Wood practices law with Wood LLP, in San Francisco. The author of more than 30 books, including Taxation of Damage Awards & Settlement Payments (4th Ed. 2009 with 2012 Supplement, Tax Institute), he can be reached at Wood@WoodLLP.com. This discussion is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional.
Saturday, August 4, 2012
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