As long as the marijuana industry is profiting, marijuana sales can generate $28 billion in tax revenue. Cannabis consumer demand is increasing and more states are open-minded to legalizing marijuana. The extra tax revenue can contribute to education, health, and more.
The U.S. cannabis industry is worth billions of dollars and there are many opportunities to profit. Unfortunately, there are strict cannabis laws on taxes.
Is there a way to pay less tax on marijuana?
What Is IRS Tax Code 280E?
The reason why cannabis businesses can’t claim as many tax deductions as other businesses is because of the IRS tax code 280E. IRS tax code 280E bans all tax deductions for illegal trafficking of drugs and selling schedule I and II drugs.
Even though marijuana is legal in certain states, it’s still considered a Schedule I drug.
This tax code was adopted in 1981. A cocaine trafficker claimed his right to deduct ordinary business taxes. The IRS created tax code 280E to prevent future drug traffickers from claiming business deductions. This is why many cannabis businesses need 280E help.
There is one exception: the cost of goods sold.
What Is the Cost of Goods Sold?
Do you not understand the cost of goods sold and need IRS help for cannabis?
The cost of goods sold is the cost of producing goods. This metric takes the profit you earned from your products and subtracts the expenses you paid to create the product and make it available to the public.
The most common cost of goods sold deductions are labor and materials. You can’t claim indirect costs under the cost of goods sold, such as sales force and distribution costs.
Why Is the Cost of Goods Sold an Exception?
Even though trafficking schedule I and II drugs have been illegal for decades, there are still constitutional issues with 280E. This is why Congress added the cost of goods sold exclusion when they passed the tax code.
While the cost of goods sold is still stricter for cannabis businesses, but there are still ways to work around this deduction and pay fewer cannabis taxes.
How to Claim Deductions Under Tax Code 280E
To maximize your tax savings under tax code 280E, it’s important to understand what you can claim and how to use the cost of goods sold to your exception. Here’s some advice on medical marijuana taxes.
Under recreational and medical marijuana dispensary laws, dispensaries are considered cannabis resellers, they can claim any expenses they pay to sell cannabis. This includes costs related to inventory and transportation.
Cannabis producers include those who grow and cultivate cannabis. These businesses can claim a few different expenses, including any materials used to clean and care for the plants as well as labor, packaging, and additional production costs. Cannabis tax preparation can help claim these deductions.
A Possible Loophole
In order to pay less cannabis taxes, there is one loophole that cannabis businesses can take: changing their business structure.
Many cannabis companies are dividing into two different businesses. The first business is the cannabis business, that files their taxes within the law. They only report sales and any business directly related to cannabis products.
The second business is responsible for any business activities that aren’t directly related to cannabis. This can include selling merchandise, offering care services (which is common for medical marijuana tax and businesses), and some cannabis businesses may even use this second entity to buy property.
The second entity files their taxes as any normal business would, claiming traditional deductions and saving a significant amount of money.
Is this loophole legal? Yes. This was proved by one court case — Champ v. Commissioner.
With the help of a cannabis tax attorney, Californians Helping to Alleviate Medical Problems, inc. (CHAMP) is the only business to successfully overcome an attach on section 280E. The IRS audited the business, claiming they can’t claim deductions because they’re a cannabis business.
In reality, CHAMP had two different business entities: one that handled their care services and the second that handled their medical marijuana sales. CHAMP won its case and was able to operate its business as normal.
Keep in mind, many cannabis businesses have tried this route and failed. In order to successfully implement this business structure, you need skilled cannabis accounting professionals who can assist with your accounting and tax preparation for both businesses.
Other Ways You Can Save
It’s essential you hire a cannabis bookkeeping professional for accurate reporting and filing. But what are some of the costs of goods sold that they will document?
In order to stay compliant, you must not only report your employees but also what they do for your business. That’s because some roles are deductible — for example, you can deduct employees who are growers and cultivators but not “budtenders.”
Square Footage and Rent
Any part of your business that’s devoted to cost of goods sold, such as where your inventory is stored, can be deducted. You can find this out by looking at your floor plan and finding the percentage that’s dedicated to sales.
Accurate record-keeping gives you a paper trail for proof. This is crucial to prevent a cannabis audit. In addition, keeping accurate records will help you uncover possible deductions. If you’re unsure about creating financial records, a cannabis bookkeeper can assist you.
What About State and Local Taxes?
Recreational and medical marijuana taxation varies by state, but every state marijuana taxes on sales. All states with legalized marijuana tax the sale of marijuana but some states, such as Alaska, also charge an excise tax.
Excise tax is an indirect tax based on goods and services. For example, there may be a tax on medical marijuana from the producer to the distributor.
Some states also charge taxes outside of cannabis sales. For example, in Washington state, cannabis businesses are subject to a business and occupation tax.
The best course of action is to research different state cannabis laws and do business in a state with fewer tax implications. For example, Maine has some of the lowest taxes. Oregon only has a 17% marijuana sales tax compared to Washington’s 37% tax. You can also ask a cannabis CPA in your state for assistance.
We Can Help You Pay Less Tax on Marijuana
Business tax on marijuana is high and cannabis businesses don’t have as many opportunities to claim deductions. If you hire a cannabis accountant, you can save money on taxes while staying compliant with the law.
Do you need cannabis tax help? Take a look at our services to see how we can help you.