ASK THE CALIFORNIA EMPLOYMENT TAX AND PAYROLL TAX ATTORNEY – US TAX COURT SHOOTS DOWN ANOTHER CALIFORNIA MARIJUANA BUSINESS
By Robert S. Schriebman
On February 17, 2021, the US Tax Court dealt a fatal blow to the medical marijuana industry in California. The US Tax Court’s decision in San Jose Wellness v. Commissioner totally disallowed the deductibility of all expenses incurred in the business including charitable contributions and depreciation deductions. In prior articles on this website, I have shared with you past Tax Court cases that have disallowed commonly recognized deductions for inventory, rent, utilities and even wages. The San Jose Wellness case has gone even farther in not recognizing the medical marijuana industry as a legal enterprise. (CCH Dec. 61, 820, 156 T.C. No. 4, Feb. 17, 2021)
Under California law the marijuana industry is legal. This means that the FTB, CDTFA and the EDD recognize the legality of the business operation. Ordinary, necessary, and reasonable business-related expenses are totally deductible in California. The industry pays sales tax on retail transactions and the EDD also collects employment and withholding taxes. Having said this, on the other side of the coin, the IRS does not recognize the legality of the business operation. If it conducts an audit, the IRS will disallow business and nonbusiness related expenses.
A few days after the San Jose Wellness decision was issued, on February 22, 2021, US Tax Court Judge Holmes shot down a marijuana business known as Desert Organic Solutions (Desert). Desert tried to argue that while it sold marijuana products, it also sold marijuana paraphernalia such as pipes, rolling paper and a few other things. Desert tried to convince Judge Holmes that deductions related to these products should be allowed. Nothing doing, said the good judge. These other products only amounted to 5% of total sales. All deductions were disallowed.
Judge Holmes stated that the controlling Tax Court decision was Patients Mutual Assistance Collective Corp. v. Commissioner 152 TC 176 (2018) currently on appeal to the 9th Circuit. The judge requested that both sides wait until that case is resolved before bringing their current matter before the Court. Unfortunately, IRS Commissioner Rettig refused to wait; Judge Holmes had to issue his decision.
The position of the US Tax Court has consistently been governed by IRC § 280E discussed below.
IRC § 280E
IRC § 280E is a short but deadly piece of law. It states in substance that no deductions or credits, in any amount, will be allowed for any business trafficking in controlled substances. This includes marijuana and its derivatives. The Tax Court held that the day-to-day costs incurred by Desert are governed by the rules set forth in § 280E – end of discussion!
The Desert decision was short and to the point as well as being totally consistent with a line of Tax Court decisions denying all deductions for businesses trafficking in marijuana and related products. The only way things will change is by an Act of Congress. This will not happen anytime soon. People rush to invest their hard-earned money in this industry. Everybody losses, the biggest loser of all is the US Treasury.
Robert Schriebman has a successful practice in the Rolling Hills Estates area of Los Angeles County serving clients throughout California and the United States. He has successfully dedicated more than 50 years to helping individual taxpayers, business owners, CPAs, Enrolled Agents, and tax attorneys navigate the complicated tax systems of the federal and state governments. Mr. Schriebman is in private practice. He is not affiliated in any way with the EDD and he is not employed by the EDD or any other agency of the State of California.
Robert Schriebman has written the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.
Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House.
Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House in addition to the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.
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