IRS tells California Medical Marijuana Dispensary it Owes Millions in Unpaid Taxes

Marin Independent Journal:  “The Internal Revenue Service has notified the Marin Alliance for Medical Marijuana in Fairfax that it owes millions of dollars in unpaid back taxes, according to the alliance’s founder and director, Lynnette Shaw.  Shaw said the IRS audited the alliance’s tax returns for 2008 and 2009 and disallowed all of its business deductions. She said that although dispensaries throughout the state are being audited by the IRS, the alliance is the first to be told it can’t deduct business expenses.  ‘Every dispensary in the nation, past, present and future is dead if this is upheld,’ Shaw said. . . . Shaw said the IRS disallowed her deductions — for buying marijuana, hiring employees, securing office space and more — based on section 280E of the federal tax code, which states that no deduction shall be allowed for any business trafficking in controlled substances.”

This story is a wake-up call and warning to all prospective Arizona medical marijuana dispensaries.  Despite the CHAMPS case, which was decided in the U.S. Tax Court, the IRS apparently is disallowing ALL deductions of medical marijuana dispensaries.  Prospective Arizona medical marijuana dispensaries should consider this fact when doing budgets and financial projections for their dispensary businesses.  See “Californians Helping to Alleviate Medical Problems, Inc. v. Commissioner of Internal Revenue.”

By |2019-06-14T08:24:54-07:00March 18th, 2011|California News, Federal Dispensary Attacks, Tax Issues|Comments Off on IRS tells California Medical Marijuana Dispensary it Owes Millions in Unpaid Taxes

Medical Marijuana Dispensaries; the Federal Income Tax Deductibility Nightmare

Given the recent enactment of the Arizona Medical Marijuana Act, we anticipate a number of new business enterprises in the Arizona market attempting to comply with its “dispensary” provisions. Thoughtful entrepreneurs engaged in this fledgling industry will be wondering whether they will be permitted to deduct the expenses incurred in their business operations. This article will consider relevant tax provisions and attempt to provide a meaningful “rule of thumb” that these businesspersons, or their tax preparers, may find useful.

Background

The Arizona Medical Marijuana Act authorizes the establishment of nonprofit medical marijuana dispensaries (“dispensaries”). These dispensaries are to be licensed, tightly regulated, and inspected and are intended to provide medical marijuana to qualified patients, with their doctor’s approval, or their designated caregivers. Although, under Arizona Revised Statutes Section 36-2806, these dispensaries are to be nonprofit entities (but they need not be tax-exempt organizations for IRS purposes), they are clearly authorized by Arizona Revised Statutes Section 36-2801 to receive payment for all expenses incurred in their operations. As a result of receiving such revenue, they will undoubtedly be required to file income tax returns. Before considering these tax returns, however, an important legal issue must be dealt with. Is this business legal or illegal?

Although this may seem like a strange question to be asking, given that we are able to review specific Arizona statutes that authorize the business and provide detailed rules on numerous aspects of the creation and operation of such dispensaries, we would be remiss if we failed to do so. Since, however, the focus of this article is not the legality of a dispensary, we will rely on existing analysis of the issue as it has arisen in connection with California statutes, which have been around for the past decade and a half.

Since the passage of the Compassionate Use Act of 1996 and the California Medical Marijuana Program Act, California businesses have been wrestling with a number of legal issues and have had the opportunity to create a growing base of case law that will undoubtedly provide precedence as these same issues arise under Arizona law. The most important issue is whether the creation of these state statutes that authorize the possession and use of marijuana for medical purposes provides some protection, some defense, from Federal prosecution for the possession or use of illegal drugs.

A number of cases make it clear that the possession and use of marijuana, even for medical purposes, is still illegal under Federal law. See, for example, Footnote 10 of the California Supreme Court case, People v. Kelly (2010). According to the Controlled Substances Act, marijuana remains a Schedule I drug and, state statutes authorizing medical use to the contrary, Federal law does not contain any exception for “medical use”. Furthermore, Federal law still supersedes state law (Gonzalez v. Raich US Sup. Ct (2005)). In short, except perhaps for certain, specific research purposes, no use of marijuana is legal.

Thus, it would appear that any person or business possessing marijuana, even if in compliance with state medical use laws, is involved in an illegal business activity. This fact explains the many legal conundrums arising in advice given in the industry. Should a doctor merely “approve” of a patient’s medical use of marijuana or may she “recommend” it? May the product be “sold” or must it be given away (in exchange for a donation)? What is the difference between distribution by a “dispensary” and a “collective”? It should be noted that these issues arise, not necessarily as a result of any ambiguity in the state statutes, but because of concern over exposure to legal liability at the Federal level.

One may find some comfort (but, perhaps, not much) in statements issued by/on behalf of the Department of Justice (DOJ). In 2009, the Attorney General indicated that even though the DOJ does not condone any possession or use of marijuana, in an effort to use its resources efficiently, it would limit its prosecution efforts and target only dispensaries being used as a front for dealers of illegal drugs. However, in the DOJ guidelines issued in October 2009, I believe it expressed its intention more broadly, that is, it intended to prosecute “for profit” enterprises. Its statements have also indicated that it will not require its agents to prove any violation of specific state (Medical Use) statutes during such prosecutions (that is, such statutes do not matter and, even if followed precisely, offer no defense).

Thus, although AS 36-2811(B) clearly states that those complying with the provisions of the Arizona Medical Marijuana Act are not subject to arrest, prosecution or penalty for their possession or use of marijuana, this statute should not provide much comfort for anyone using or possessing marijuana for medical purposes. It may serve to give guidance to state police on the proper use of their resources but will apparently not affect Federal law enforcement officials. For further analysis of this issue, and others, you may wish to consider the White Paper on Marijuana Dispensaries, issued by the California Police Chief Association’s Task Force in April 2009 (www.counties.org. , under the CSAC Advocacy tab), as a possible starting point.

We will leave the resolution of this issue to the interested lawyers among you. For the remainder of this article, we will assume that a medical marijuana dispensary is an “illegal” business activity for Federal tax purposes.

Tax Guidelines (more…)

By |2011-02-17T07:56:34-07:00February 16th, 2011|Tax Issues|1 Comment

Californians Helping to Alleviate Medical Problems, Inc. v. Commissioner of Internal Revenue

In 2007 the U.S. Tax Court held that Internal Revenue Code Section 280E prevents expenses incurred in a business of growing or selling medical marijuana that is legal under California law from being deductible in determining the taxable income of the business for federal income tax purposes.

128 T.C. No. 14

UNITED STATES TAX COURT

CALIFORNIANS HELPING TO ALLEVIATE MEDICAL PROBLEMS, INC., Petitioner
v.
COMMISSIONER OF INTERNAL REVENUE
, Respondent

Docket No. 20795-05
Filed May 15, 2007

P provided counseling and other caregiving services (collectively, caregiving services) to its members, who were individuals with debilitating diseases. P also provided its members with medical marijuana pursuant to the California Compassionate Use Act of 1996, codified at Cal. Health & Safety Code sec. 11362.5 (West Supp. 2007). P charged its members a membership fee that generally reimbursed P for its costs of the caregiving services and its costs of the medical marijuana. R determined that all of P’s expenses were nondeductible under sec. 280E, I.R.C., because, R determined, the expenses were incurred in connection with the trafficking of a controlled substance.

Held: Sec. 280E, I.R.C., precludes P from deducting its expenses attributable to its provision of medical marijuana.

Held, further, P’s provision of its caregiving services and its provision of medical marijuana were separate trades or businesses for purposes of sec. 280E, I.R.C.; thus, sec. 280E, I.R.C., does not preclude P from deducting the expenses attributable to the caregiving services.

Matthew Kumin, Henry G. Wykowski, and Willian G. Panzer, for petitioner.

Margaret A. Martin, for respondent.

LARO, Judge: Respondent determined a $355,056 deficiency in petitioner’s 2002 Federal income tax and a $71,011 accuracy related penalty under section 6662(a) . (Note 1)  Following concessions by respondent, including a concession that petitioner is not liable for the determined accuracy-related penalty, we decide whether section 280E precludes petitioner from deducting the ordinary and necessary expenses attributable to its provision of medical marijuana pursuant to the California Compassionate Use Act of 1996, codified at Cal. Health & Safety Code sec. 11362.5 (WestSupp. 2007).   (Note 2)  We hold that those deductions are precluded. We also decide  whether section 280E precludes petitioner from deducting the ordinary and necessary expenses attributable to its provision of counseling and other caregiving services (collectively, caregiving services). We hold that those deductions are not precluded.

FINDINGS OF FACT

Certain facts were stipulated and are so found. The stipulation of facts and the exhibits attached thereto are incorporated herein by this reference. When the petition was filed, petitioner was an inactive California corporation whose mailing address was in San Francisco, California. Petitioner was organized on December 24, 1996, pursuant to the California Nonprofit Public Benefit Corporation Law, Cal. Corp. Code secs. 5110-6910. (West 1990). (Note 3)  Its articles of incorporation stated that it “is organized and operated exclusively for charitable, educational and scientific purposes” and “The property of this corporation is irrevocably dedicated to charitable purposes”. Petitioner did not have Federal tax-exempt status, and it operated as an approximately break-even (i.e., the amount of its income approximated the amount of its expenses) community center for members with debilitating diseases. Approximately 47 percent of petitioner’s members suffered from Acquired Immune Deficiency Syndrome (AIDS); the remainder suffered from cancer, multiple sclerosis, and other serious illnesses. Before joining petitioner, petitioner’s executive director had 13 years of experience in health services as a coordinator of a statewide program that trained outreach workers in AIDS prevention work. (more…)

By |2010-12-27T19:00:28-07:00December 27th, 2010|Tax Issues|1 Comment