The U.S. Tax Court in an October 22, 2015, memorandum decision called Canna Care, Inc., vs. Commissioner ruled that a California medical marijuana dispensary owed back federal income taxes of $229,473, $304,090, and $339,604 for 2006, 2007, and 2008, respectively.  The IRS used Internal Revenue Code Section 280E to disallow deductions that would be otherwise have been deductible if Canna Care’s businesses did not involve “trafficing” in a controlled substance.

Section 280E states:

“

[n]o deduction . . . shall be allowed for any amount paid or incurred during the taxable year in carrying on any trade or business if such trade or business (or the activities which comprise such trade or business) consists of trafficking in controlled substances (within the meaning of schedule I and II of the Controlled Substances Act) which is prohibited by Federal law or the law of any State in which such trade or business is conducted.

It is indisputable that marijuana is a schedule I controlled substance.

Section 280E applies to deny deductions if all of the following facts exist:  (1) there is a trade or business; (2) that involves trafficking in (3) a controlled substance.  The Tax Court found that all three elements exited with respect to Canna Care, Inc., for the years at issue and denied all deductions.

Canna Care is a California mutual benefit corporation that is prohibited by California law from distributing marijuana for profit.  Nevertheless, the non for profit medical marijuana dispensary business was very, very good to its shareholders Bryan Davies and Lanette Davies.

“Petitioner had 10 employees in 2006 and 2007 and 6 employees in 2008. Mr. Davies determined salaries. During the years at issue the shareholders’ salaries far exceeded the salaries paid to any other employees. Mr. Cowen was paid $88,700, $152,900, and $144,000 during 2006, 2007, and 2008, respectively. Mr. Davies was paid $79,200, $160,900, and $146,200 during 2006, 2007, and 2008, respectively. In addition to their salaries, petitioner made payments for its shareholders’ automobiles in the amounts of $31,459, $24,609, and $23,942 during 2006, 2007, and 2008, respectively. Petitioner’s manager, its highest paid nonshareholder employee, was paid $36,000, $55,600, and $52,000 in 2006, 2007, and 2008, respectively. Mrs. Davies was paid $27,000, $66,480, and $74,000 during 2006, 2007, and 2008, respectively. Petitioner’s other employees made an average of $24,494.17, $12,173, and $12,314.29 during 2006, 2007, and 2008, respectively.”

The Tax Court ruled that “section 280E prohibits petitioner from deducting any amounts paid or incurred during the years at issue in connection with its trade or business that respondent disallowed.”

Section 280E imposes a very heavy and some would argue an unfair price on businesses that sell marijuana in states that have legalized the drug.