Partially Up In Smoke

The Tax Court today looked into whether a non-profit corporation that provides help to the terminally ill and provides medical marijuana to the terminally ill is allowed to deduct its operating costs.

The non-profit, Californians Helping to Alleviate Medical Problems, Inc., was a San Francisco based corporation that helped the terminally ill. In its view, as a secondary service the provided medical marijuana to their patients; in the view of the IRS, it was intertwined with its other goal—and the non-profit only had one line of business.

A few tax facts first. If you are in an illegal occupation or you sell illegal or illicit drugs, you must report the income from your occupation; illegal income is just as taxable as legal income. Medical marijuana is in a curious category; under California law, properly prescribed medical marijuana is a legal line of business. However, for federal purposes marijuana—even marijuana legally prescribed—is considered a Schedule I controlled substance for tax purposes. And §280(E) of the Code prohibits deductions or credits for trafficking in controlled substances (Schedule I or II).

The IRS did not dispute the actual amounts of the expenses. So the Tax Court was left with two questions to answer: (1) Could the non-profit deduct expenses related to the distribution of medical marijuana; and (2) Could the non-profit deduct the expenses related to providing care for the terminally ill or were the two lines of business one?

The Court held

“…that section 280E does not preclude petitioner from deducting expenses attributable to a trade or business other than that of illegal trafficking in controlled substances simply because petitioner also is involved in the trafficking in a controlled substance…We define and apply the gerund “trafficking” by reference to the verb “traffic”, which as relevant herein denotes “to engage in commercial activity: buy and sell regularly”. Webster’s Third New International Dictionary 2423 (2002). Petitioner’s supplying of medical marijuana to its members is within that definition in that petitioner regularly bought and sold the marijuana, such sales occurring when petitioner distributed the medical marijuana to its members in exchange for part of their membership fees.”

The Court then turned to the second question: Was there one line of business or two?

“Petitioner was regularly and extensively involved in the provision of caregiving services, and those services are substantially different from petitioner’s provision of medical marijuana. By conducting its recurring discussion groups, regularly distributing food and hygiene supplies, advertising and making available the services of personal counselors, coordinating social events and field trips, hosting educational classes, and providing other social services, petitioner’s caregiving business stood on its own, separate and apart from petitioner’s provision of medical marijuana.”

The Court then held that the expenses will be allocated, and the expenses allocated to the caregiving will be allowed but the expenses allocated to medical marijuana will not be allowed.

Thus, for federal tax purposes, even if you legally supply medical marijuana, you can’t deduct related expenses. However, if you have another line of business, those expenses are deductible. Note that it is very likely that the expenses related to medical marijuana are deductible on the California tax return.

Case: Californians Helping to Alleviate Medical Problems, Inc. v. Commissioner, 128 T.C. No. 104


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