Tax Code Disallows Business Deductions for Marijuana Sales

One tax downside to the new legal marijuana industry in Colorado and Washington State is disparate tax code treatment. While all other businesses (including illegal businesses!) can deduct their business expenses from their revenue and pay tax only on the difference, marijuana businesses are explicitly denied the business expense deduction.

It's in the tax code at 26 U.S.C. § 280E:

No deduction or credit 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.

Marijuana is currently on Schedule I. The Drug Enforcement Administration (DEA) and the Food and Drug Administration (FDA) determine what substances are on Schedule I and Schedule II, and consequently, which drug businesses can deduct their expenses on their taxes.

This is an unfair and considerable burden — businesses earn anywhere from 0 to 20 percent or so in profits, and usually tax is paid on some part of that. If marijuana businesses can't deduct their expenses, that means as much as 35 percent federal tax on their receipts, plus the hefty state sales tax.