Legalized Cannabis 2019 – What Lies Ahead?

2018 was a big year for the commercial cannabis legalization and provided some clues for what’s to come. The year started with California’s recreational market kicking off just as now-former U.S. Attorney General Jeff Sessions rescinded the Cole Memo. By year’s end, the number of states allowing medical and recreational cannabis rose to forty-four and ten, respectively.

Some major milestones for 2018 included:

  • The introduction of the STATES Act, which would give states the power to regulate commercial cannabis within their own borders.
  • California’s first full year of legalization.
  • Canada’s national legalization of commercial cannabis.
  • High taxes on cannabis businesses and less than expected tax revenue for many states and localities.

These topics are discussed in greater detail in an article by Rob Selna and myself published in mg Magazine, which you can read here.

Court Ruling on 280E

Another major legal development came in late 2018: after a long battle, a US Tax Court ruled that the IRS can continue prohibiting cannabis companies from taking standard business deductions based on Internal Revenue Code Section 280E. 

As discussed in a previous post, Section 280E prevents any trade or business that consists of trafficking in controlled substances from taking deductions or credits for business expenses other than the cost of goods sold. 280E has been a thorn in the side of attorneys, CPAs, accountants and business owners working in the cannabis industry for as long as cannabis companies have been filing their taxes. It has greatly increased the cost of doing business and has prompted even small cannabis companies to adopt complex corporate structures, including management and holding companies. Another tact has been to undertake extremely careful, and sometimes creative, bookkeeping in order to minimize the overly heavy tax burden.

Fed up with what it perceived to be unfair treatment, Harborside Health Center, a major cannabis retailer headquartered in Oakland, decided to take a stand against Section 280E. Unfortunately, a Tax Court didn’t buy their argument. On December 20, 2018, the court ruled that Harborside would have to repay business deductions, estimated to be tens of millions of dollars, that it took on its taxes between 2007 and 2012.

Harborside argued that 280E did not apply to their dispensary earnings because about two percent of revenue came from the sale of non-cannabis related products like clothing and lighters. Harborside relied on the language in 280E, which states that its restrictions shall apply to any trade or business that “consists of trafficking in controlled substances” to mean consists “only of controlled substances.” The U.S. Tax Court disagreed with this interpretation and held that the sale of non-cannabis products was “neither economically separate nor substantially different” from Harborside’s primary business in selling cannabis products. Harborside has said it will appeal the ruling, but for now, 280E’s ban on standard business for cannabis operators stands.