Many business owners find their tax obligations opaque and challenging to understand. This is especially true in the cannabis industry, which may be heavily taxed by states. If you are considering starting a marijuana business, you should carefully review the rules in your state and potentially consult an attorney who is experienced in business tax issues to ensure that you do not face penalties later.
Cannabis businesses are distinctive in that their activities are legal under state laws but illegal under federal laws. This means that they cannot benefit from federal tax credits and tax deductions provided by the Internal Revenue Code. The IRS continues to enforce Section 280E of the IRC, which bars credits and deductions related to trafficking in illegal drugs. Selling marijuana is still a federal crime, so this provision applies to marijuana businesses even if they are legal at the state level. A cannabis business owner thus cannot get deductions for their ordinary, necessary, and reasonable expenses in operating the business, as most business owners can.
Federal Income Tax Still Applies
Even though the federal government views a cannabis business as an illegal activity, owners of these businesses must continue to pay income taxes related to the business. Failing to report this income may result in federal tax evasion charges.
State Tax Rules Affecting the Cannabis Industry
All states that have legalized commercial cannabis activities have imposed sales taxes on these businesses. The specific tax rate depends on the state, and some states have imposed additional types of taxes related to selling cannabis products. For example, states such as Washington and California impose an excise tax in addition to the sales tax. In Washington, marijuana retailers must collect and pay an excise tax imposed on consumer purchases of marijuana products. A cannabis business in Washington also must pay a business and occupation tax, based on its gross receipts.
A cannabis seller in California must get a seller’s permit from the California Department of Tax and Fee Administration and consistently file sales and use tax returns. California also imposes an excise tax on purchases of marijuana and requires marijuana growers to pay a cultivation tax if they are harvesting cannabis for commercial purposes. The rate of this tax depends on whether the grower is selling leaves or flowers from marijuana plants.
Another state at the forefront of the cannabis industry is Colorado, which imposes nuanced rules for cannabis sales taxes. Any business that sells marijuana for both medical and recreational purposes must have separate sales tax licenses to cover each type of purpose. This rule applies even if a business is selling cannabis products for both medical and recreational purposes at the same location. A cannabis business in Colorado also must apply varying types of taxes to its transactions, depending on whether it is selling products for medical or recreational use. State sales tax and local sales taxes apply to sales of medical marijuana, while state sales tax, local sales taxes, and an additional marijuana sales tax levied at the state level apply to marijuana sales for recreational use.