No Business Expense Deductions for Medical Marijuana Vendors

Although 17 states, including Connecticut, have legalized medical marijuana, businesses that sell marijuana under such laws face significant federal tax issues. 

Section 280E of the Internal Revenue Code bars anyone from claiming federal tax deductions or credits for expenses related to a business that consists of “trafficking in controlled substances,” as defined by federal law.  The U.S. Tax Court created an opening for certain deductions when it ruled in 2007 that such a business could deduct expenses for “care-giving” services.  But the opening looks smaller in light of an August 2, 2012 decision disallowing such deductions for California medical marijuana dealer Martin Oliver, doing business as the Vapor Room. The court barred Oliver’s deductions for the 2004 and 2005 tax years based on (1) the close and inseparable relationship between the Vapor Room’s care-giving services and its marijuana sales and (2) lack of documentation for the expenses of the two activities.  The Court also ruled that Section 280E applies regardless of whether a business is legal under state law because the standard for allowable business deductions is whether the trafficking is legal under federal law.

An August 15 Reuters article about the case highlights the dilemma for medical marijuana sellers.  To qualify for federal tax deductions, they must maintain meticulous records. But the same records can be used against them in federal drug prosecutions.