Let’s talk cannabis tax: don’t file tax returns as if 280e doesn’t apply (Guest Column)

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This guest column is from Paula Collins, a candidate for the U.S. House of Representatives, NY’s 21st Congressional District, an adjunct law professor at Elisabeth Haub School of Law in White Plains, and a cannabis tax attorney at the Law Office of Paula Collins. The views and opinions expressed in this article are those of the author, and do not necessarily reflect the views or positions of NY Cannabis Insider.

You may have read the recent press regarding amendments to tax returns of certain MSOs. Trulieve, Ascend, Planet 13 Holdings, and TerrAscend have chosen to amend prior year tax returns as if the companies were non-plant-touching, and they’re subsequently applying those savings to their current year’s tax liabilities.

In New York, any possible financial lifeline thrown in the direction of a cannabis company is welcomed. But let’s reason through this.

First of all, New York’s adult-use industry does not have the multi-year tax filing record to amend. Housing Works opened in late December 2022 as the first licensed adult-use dispensary. There were cultivators and processors who were producing earlier in 2021 and 2022. Perhaps they might consider amendments to their returns. But the vast majority of New York’s cannabis industry formed in 2022 and 2023.

Should a company that intends to be plant-touching but isn’t yet file pursuant to 280e restrictions? It seems hardly relevant, since the majority of New York cannabis companies were not profitable in 2022 and 2023. Why file a return that is on the edge of the law if all you have are losses?

The logic seems to be summed up in this statement in reporting by John Shroyer: “…[I]f the Drug Enforcement Administration agrees to reclassify marijuana to Schedule III from Schedule I, as many observers expect, that will negate 280E’s effect on the U.S. cannabis trade anyway, meaning the MSOs could be simply getting a jump on tax refunds that could be coming to them eventually anyway.”

Enticing. But I recommend caution for our New York cannabis businesses. If 280e were in effect for the years 2021-2023, in my opinion, one should not file returns as if 280e did not apply. Doing so will almost certainly trigger an audit.

“Bring it on!” I have had clients shout, gleefully. A few people have offered to be the test case to argue that 280e is unconstitutional .

Not so easy. Just ask the DeAngelo family, who battled with the IRS in the famous Harborside cases. The case involved tax years 2007 to 2012. The final outcome on the case involved a tax bill of $11 million, awarded in 2019. The company was actually pleased with this result; the original bill was for $36 million.

Bear in mind, they weren’t defending themselves in U.S. Tax Court. And Legal Zoom would just not cut it here. Once you are in tax court with these kinds of figures, pro bono is not really an option. Figure that for each of the five years in question, Harborside had to hire accountants and lawyers. And of course, since it’s cannabis, they were billing at the so-called “green tax” rate. Add a little “U.S. Tax Court” expense thrown in to raise accounting and legal retainers even higher.

I would guesstimate that for each year they were probably spending at least $200,000 on accountants and another $300,000 in legal fees. Times five years, that’s over $2.5 million in legal fees.

True – the tax savings was $25 million. But if you don’t have it, you simply don’t have it.

Bring it back to New York. I personally tend to be fiscally conservative. Even if we learned tomorrow that marijuana had been rescheduled or descheduled, the IRS tax rules that applied for the revenue earned before the change in scheduling would still apply. It’s not really retroactive.

Unless you are willing to sit in suspense for 2-3 years after a tax return has been filed to receive the Notice of Deficiency from the IRS, then spend several years hiring accountants and litigators, I just don’t see that it is worth it.

How would this really look in a New York licensed adult-use dispensary?

Let’s look at some numbers. (Note: some dispensaries in New York are doing double or close to triple the volume in the illustration below. But some are not even matching these revenues.)

Pursuant to IRC 280e

Let’s say you ring up sales of $20,000 a day for 365 days. That’s revenue of $7,300,000. Not bad! Under IRC 280e, you can deduct for the Cost of Goods Sold (COGS). Let’s allow for 50% COGS, bringing the taxable income down to $3,650,000. At a corporate tax rate of 21%, the total federal tax bill will be $766,500. That brings the net proceeds to the business owner to $2,883,500. Well done!

But don’t forget an additional 7.25% corporate income tax rate for New York, and more for NYC business taxes. Right now, we are only focused on federal corporate taxes. (“NY tax?” you say. Yes – these are corporate income taxes. That’s different from the sales tax and cannabis tax you have already paid.)

Treating the business as if IRC 280e does not apply

Let’s take the same company as if IRC 280e does not apply.

Sales of $20,000 a day for 365 days = revenue of $7,300,000.

50% COGS for a taxable income of $3,650,000.

But now let’s deduct expenses of $1,500,000 (rent, marketing, utilities, software, professional services, and so forth)

That brings us to a subtotal of $2,150,000.

There is a corporate tax rate of 21%, rendering a tax liability of $451,500.

The net is $3,198,500.

But then the tax letter arrives

However, years later you can get hit with a Notice of Deficiency letter (in other words, a bill!).

It will hit you when you least expect it. Your legal and accounting fees, not to mention penalties and interest owed to the IRS, will loom in the neighborhood of $1,000,000.

The heartache, headache and worry will be costly. Your new net proceeds for that year will be diminished to $2,198,500, but the years that intervene between the time you filed the taxes and the day you start to sort through it will make it only seem like a bill (or really, lots of bills from accountants and lawyers). For many people, the money will have already been spent or invested in other ventures by the time the tax letter arrives.

I just can’t see how this is worth the risk to our brand-new New York dispensary owners.

My strong suggestion: play it safe. Wait until rescheduling or descheduling. It will happen one day. Some day. But wait. You will be glad you saved the money on the accountants and lawyers and preserved your peace of mind.