Tax Law Basics for the Cannabis Industry.

Marijuana has always been a controversial subject. In today’s age, everyone knows what cannabis is, due to its mega popularity and usage among people, especially youngsters. Its use by artists and romanticizing in pop culture has spurred its popularity. Most people think that cannabis and marijuana are the same, but they’re different. The main difference between marijuana and industrial cannabis (hemp) is that hemp does not contain more than 0.3% of tetrahydrocannabinol, also known as THC. Any cannabis plant that contains more than that amount is marijuana.


Cannabis attracted more attention towards it due to the use of marijuana. Out of the many compounds present in cannabis plants, two components are abundant in them. They are THC (tetrahydrocannabinol) and CBD (cannabidiol). Though it comes from the same plant, they work in different ways. Extensive research on cannabis has helped us discover more about the cannabis Sativa plant. Researchers found out that cannabis is beneficial for medicinal purposes.


Studies show that using cannabis has a positive impact on the human body and can help in treating various ailments. Cannabis helps relieve stress, anxiety, pain, depression, etc. It does not have psychoactive properties like THC, making it safer to use. Cannabis does not directly bind with the body’s endocannabinoid system. It enhances the biological activities carried out by the system. The legalization of cannabis has paved a new way for cannabis to be used for medicinal purposes. This has encouraged many businesses to sell industrial hemp and provide cannabis-related products and services. The industry is booming with potential and its value is only increasing. The cannabis industry is expected to reach a value of 25 billion dollars by 2025.


Cannabis is illegal by federal law, but many states in the US have legalized its use. 20 out of the 50 states in the US consider recreational marijuana to be legal. If you are planning to set up a cannabis business, you need to be careful of the law. With business comes taxation. Paying taxes is a duty that must be fulfilled by every business. Filing and calculating taxes can be quite confusing. When it comes to cannabis, taxation is even more confusing due to the nature of business. While federal laws consider it illegal, state laws do not; so figuring out taxes is quite difficult.


Here are some tax law basics you must know if you are involved in the cannabis industry:

  • Section 280E: As per the 26 US Code Section 280E, a business that is engaged in dealing with controlled substances, such as marijuana, is not entitled to getting any tax deductions or credits. This means that you, as a cannabis business owner, will have to pay a significantly higher amount of taxes compared to other businesses. Most businesses can write off their business expenses to reduce their taxable income, but it is not the same for a cannabis business.


  • Cost of Goods Sold exception: Although 280E may seem like a grim aspect of the cannabis business, you can get some relief if you are a producer of marijuana. Producers of marijuana can deduct seeding and cultivation costs, transportation and inventory costs, shipping costs, etc as the cost of goods sold (COGS), from their taxable income. With that said, any new exemptions that may be included in COGS after the implementation of 280E cannot be availed by cannabis businessmen.


  • Separation of businesses: If you are a retailer of cannabis, you will have to abide by 280E without any deductible COGS exemption. But, you may operate your cannabis business as an affiliate business. For example, you may run a wellness studio or a merch store alongside your marijuana business. In this way, you can claim the deductions from your second business and minimize your overall tax burden. This type of dual business strategy came to light with the CHAMP case. You may exploit this loophole if you can prove that your cannabis business does not benefit from your other business.


  • State laws: While federal law may apply 280E on cannabis businesses, states that have legalized cannabis may have different tax laws. Some states allow marijuana businesses to deduct all kinds of business expenses from their taxable income while others have certain conditions. Depending on the state you are operating in, the deductions you can avail of will differ. Although this is a relief for cannabis businesses, it adds another layer of complicated taxation.


  • Reporting total income: Cannabis businesses are looked at even more closely than any other business by the IRS, as it is considered illegal by federal law. So keeping a complete record of every transaction in your business is essential. If you happen to have unreported income, you will get into trouble with the IRS. Make sure every sale transaction is recorded and accounted for. Maintain records of every expense your business has made and state taxes paid. Having a proper record of every little detail about your business is essential in determining the actual costs that can be deducted.


While Section 280E is a big hurdle in the way of a cannabis business, there are ways you can minimize your tax burden. You may wonder why you have to pay taxes if cannabis is considered illegal by federal law. The income generated from any business is entitled to pay taxes. And the fact that you can run a cannabis business is due to its legalization in your state, so you will have to pay taxes in some way.


There are tactics and accounting methods you can employ legally to reduce your tax burden. These methods may be a strategic corporate structure, affiliate businesses, etc. But you need to be careful about it and make no mistake. Otherwise, you might have to pay interest and penalties over and above your existing tax burden. When dealing in a business of restricted substances, you have to pay attention to the small details. Seek advice and get help from an attorney or accountant who can guide you through these tax complications.