Section 280 takes the profit out of the cannabis business by disallowing “deductions” and creating huge income tax liabilities. But if 280E tax debt isn’t also forgiven, the current cannabis industry won’t survive against newcomers, says Greenspoon Marder’s Nicholas J. Richards.
Recent downturns in cannabis sales and loss of capital investments have revealed the industry’s dirty little secret—IRC Section 280E tax debt.
Section 280E prevents cannabis businesses from reducing their taxable income by their business expenses. Enacted in 1982, 280E takes the profit out of the cannabis business by disallowing “deductions” and creating huge income tax liabilities. It is used to prevent cannabis companies from settling their taxes for pennies on the dollar. It also is perhaps the government’s most powerful tool in its war on drugs where, today, it seems the IRS is the only federal agency still in the fight.
The reality of the cannabis industry is tax debt, and every cannabis company must understand how to manage it. Our federal tax system recognizes that taxpayers, including companies, are only required to pay back taxes according to their reasonable collection potential or their ability to pay. The determination is based on a formula that allows basic living expenses for individuals and business expenses for companies. The formula is then used to determine whether a taxpayer qualifies for a collection alternative: offer in compromise, installment agreements, or currently not collectible).
When a tax liability is assessed, the collection statute of limitations gives the IRS 10 years to collect from the taxpayer. During that time, taxpayers may be allowed to pay in installments for pennies on the dollar through an offer in compromise. However, with 10 years to collect, such offers are seldom granted in the first few years. Instead, the IRS will provide a payment plan according to the taxpayer’s ability to pay, and some taxpayers make it through years before paying at all.
Installment agreements are generally six years for individuals and three years for businesses, although the IRS will allow up to the full amount left on the 10-year collection period. For some taxpayers, their ability to pay will result in an installment agreement that doesn’t fully pay the tax in 10 years—that’s called a partial pay installment agreement, and it is the type of agreement other businesses have received from the IRS. The glitch is that the IRS can and will reconsider the payment amount in the future and raise it if the taxpayer’s ability to pay increases.
The other payment options are a full-pay installment agreement and a CNC. If the ability to pay analysis shows the taxpayer cannot make a payment and stay up to date with its future tax obligations, the IRS will classify it as CNC, and it will not be required to make a payment—at least as it remains current.