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Tens of millions of dollars in tax savings and a sharp rise in cash on hand are among the immediate short-term benefits that the five major multistate marijuana operators—Ascend Wellness Holdings, Cresco Labs, Curaleaf Holdings, TerrAscend Corp., and Trulieve Cannabis Corp.—are enjoying as a result of their recent declaration of exemption from Section 280E of the Internal Revenue Code.
Tax lawyers and risk specialists, however, caution that this choice is likely to start a protracted and costly legal battle with the IRS, which might result in fines of millions of dollars on top of already outstanding tax obligations.
“As the saying goes, if something sounds too good to be true, it usually is,” said San Francisco-based tax attorney Henry Wykowski, who has represented several significant 280E-related cases before federal tax courts. “We believe this more aggressive strategy is reckless and will ultimately backfire on those who are pursuing it.”
MSOs Challenge 280E: A Bold Breakaway
The first company to break away from Section 280E was Trulieve, headquartered in Tallahassee, Florida, which took its bold stance last fall and claims to have received substantial refunds.
Other companies that followed include:
– Ascend Wellness, a New York-based operator, announced the quarter after Trulieve that it had filed amended returns seeking refunds dating back to 2020 and would file as a “normal corporate taxpayer” for 2023.
– TerrAscend, a Canadian-headquartered company with U.S. assets, declared its position in March.
– Curaleaf, a New York-based multistate operator (MSO), reiterated in August that 280E no longer applies to them.
Chicago-based Cresco Labs, the most recent business to take this chance, recently disclosed its strategy to shareholders during a quarterly earnings call.
Chief financial officer Dennis Olis of Cresco stated, “With regard to taxes, we intend to file as a normal business in 2023 and beyond.” He predicted the company would save $65 million in “estimated tax savings” by 2024.
Costs paid during the “trafficking in controlled substances (within the meaning of schedule I and II of the Controlled Substances Act)” are not eligible for deduction or credit, according to Section 280E.
As a result, American marijuana companies face billions in “excess taxes” that wouldn’t apply otherwise, according to Oregon-based economist Beau Whitney.
The prospect of freedom from 280E is one of the major benefits of rescheduling, and companies of all sizes are expected to see significant gains once the Biden administration finalizes the proposal to move marijuana to Schedule 3.
Until then, however, the IRS has made its stance clear.
“Taxpayers seeking a refund of taxes paid related to Internal Revenue Code Section 280E by filing amended returns are not entitled to a refund or payment,” the IRS stated in June.
“Although the law has not changed, some taxpayers are filing amended returns,” the agency added. “The grounds for filing such claims vary, but these claims are not valid. The IRS is taking steps to address these claims.”
MSOs Brace for Legal Battle Over Tax Exemption
Preparing for a prolonged battle with the federal tax agency could be a strategy for marijuana companies to buy time until they can fully benefit from significant reforms, such as rescheduling or the potential legalization of adult-use cannabis in markets like Florida.
Declaring independence from Section 280E also improves their balance sheets, which could make these companies more appealing to investors.
However, this approach may come at a cost: a confrontation with the IRS.
While addressing “a short-term problem” with cash flow, these companies are “inviting a fight” with the IRS, according to Dotan Melech, a former court-appointed receiver and federal bankruptcy trustee who now serves as CEO of Dallas-based CTrust, a credit-rating and risk-monitoring agency for the cannabis industry.
In the case of Ascend, a conflict with the IRS may already be underway. The company’s quarterly filings reveal that it has been “selected for examination of its amended tax return.”
An audit battle that ends in relief could be worthwhile for a well-capitalized, publicly traded MSO, provided that the company’s board and investors have allocated resources for what is likely to be a multiyear court struggle, Melech noted.
“Maybe they have enough firepower to see this fight through – but nevertheless, it’s a fight,” he said, adding that while the MSOs have a slim chance of winning, it is still a possibility.
“I commend them for taking the lead and possibly setting a precedent that could benefit many others.”
However, not everyone shares this optimism.
“This just isn’t going to work,” said Wykowski, who has handled several 280E cases, including a 2007 decision allowing a cannabis-related business to deduct expenses not directly tied to the sale of cannabis.
Wykowski mentioned that several companies, which he declined to name, approached his firm to argue for an exemption from 280E.
“This isn’t a solid position. We’re not going to support it because we know what could go wrong here.”
One of the risks, he pointed out, is a 20% penalty the IRS could impose on a company seeking a refund that is ultimately denied—20% on top of the taxes the IRS determines the business owes, plus the cost of litigation.
“I’m not sure these companies have fully understood the consequences,” Wykowski said.
“And those consequences are much more severe than people realize.”
Bottom Line
The bold move by major multistate marijuana operators (MSOs) to defy Section 280E of the Internal Revenue Code could bring significant short-term financial relief, but it also sets the stage for costly legal battles with the IRS. By claiming exemption, these companies are challenging a provision that has long burdened the cannabis industry with excessive tax liabilities. While this strategy might enhance cash flow and investor appeal, it comes with considerable risks, including potential IRS penalties and protracted litigation. As the cannabis sector awaits potential federal reforms like rescheduling, the decision to confront the IRS may buy time but could also lead to severe financial consequences. The outcome of this gamble will likely shape the future of cannabis taxation and set a critical precedent for the industry, but the road ahead is fraught with uncertainty and high stakes.