Last week the U.S. Court of Appeals for the Ninth Circuit affirmed the Tax Court’s decision precluding a tax payer from deducting ordinary and necessary business expenses associated with a medical marijuana dispensary in San Francisco.

This decision and the underlying position taken by the IRS is problematic for the entire cannabis industry, including in the 23 states where medical marijuana is permitted and in the 4 states and the District of Columbia where recreational use is allowed. The result of this decision is to make it very expensive to operate a cannabis business authorized by state law.

In this case, there was no dispute that the operation of the Vapor Room, a medical marijuana dispensary, complied with California law. The Federal appeals court affirmed the Tax Court’s conclusion that 26 U.S.C. § 280E precluded taxpayer from deducting any amount of ordinary or necessary business expenses associated with operation of the Vapor Room dispensary because it is a “trade or business . . . consist[ing] of trafficking in controlled substances . . . prohibited by Federal law.”

The court reasoned that income generating activities in which the Vapor Room engaged consisted solely of trafficking in medical marijuana which is prohibited under federal law. Under § 280E, then, the expenses that business incurred in the course of operating the Vapor Room cannot be deducted for federal tax purposes.

In summary, the California Federal appeals court, in Martin Olive v. Commissioner of Internal Revenue held that the Internal Revenue Code precludes a taxpayer from deducting the ordinary and necessary business expenses associated with the operation of a state authorized cannabis business, making that business very expensive to operate.

Be aware that possessing, using, distributing and selling marijuana are all federal crimes and may be state crimes. Beyond the general disclaimer below about the purposes of the article, this article is not intended to give you criminal law advice or for that matter, any legal advice.