Cannabis Knowledge & Insights

Cannabis Business Tax Audit Case Review – IRC 280E

As a cannabis business owner, the incredible burden of taxes is a harsh reality. And dispensaries are hurt the most by the restrictions of IRC 280E and it’s hard to reduce cannabis business taxes.


An appeal decision came out this week or actually last week on the 20th we’re going to talk about give us a moment here we’ll let the room fill up let people join in and then we’re going to hop into a discussion again about canvas business taxes and cannabis business audits it’s a very important topic to understand right now so we’re gonna go ahead and maybe like five seven more seconds here and then we’re gonna hop into the presentation it should be maybe 20 or 30 minutes but it’s going to be very very valuable for you to understand this information so that you don’t end up in the same position that this cannabis dispensary from the state of colorado ended up in all right so let’s go ahead we’ll start from the top right here so what are we going to be talking about well a new appeals court ruling came out this week regarding cannabis business taxes and audits now it centers around data access and backing up tax positions by a colorado dispensary now this is a pretty cut and dry case but it’s worth discussing because tax lawyers are out there giving dispensaries false hope that they can beat the irs and nullify 280e now this is not the case you cannot beat the irs very few times you’re going to be able to do that that’s not the point here at any rate if you have any questions about we’re going to cover today’s video then please reach out to us via our website at greengrowthcpas.com or give us a call at 800-674-9050 all right so before we get started i need to let you know the information contained in this presentation is meant for guidance purposes only and not meant as professional legal or tax advice and further does not give any personalized legal tax investment or any business advice in general so with that all out of the way let’s dive into what is the info about this case now with every case there is usually something in question that’s why we’re in the court right and for this case it was to determine the irs’s power and ability to enforce a provision in the tax code disallowing deductions for business activities concerning controlled substances controlled substances which are illegal under federal law aka asking the court for the 20th time is 280c 280e enforceable okay is irc 280e enforceable that is the main question of this court case here now basically what happened is that this was a colorado dispensary that was audited and things didn’t really end all that well for them okay the irs throughout an audit they wanted more information to substantiate the dispensaries financial statements now the irs wanted a fair amount of data but this also included metric data track and trace data it’s you know stuff that the state mandates of you okay now they wanted this metric data to substantiate the figures on the tax returns for this cannabis dispensary now the dispensary did some data they did send some data to the irs but they did not comply with the metric data request and this is where the case really goes sideways for the dispensary now the timeline of this case is very very important okay this is a cannabis tax audit now what happened is that the tax years in question are 2013 in 2014 so six seven years ago now the data was requested in 2016. now the date of the appeal decision was october 20th 2020. so this case has been going on for at least four to five years here now that means that there is four to five years maybe even six years of interest penalties and all the stuff building up over time that’s what happens in an audit when they find out you’ve underpaid they’re gonna assess penalties and interest and it compounds sometimes monthly now it’s likely that once the dispenser was contacted by the irs either a legal group reached out to them or the dispensary reached out to a legal group and this firm filed an appeal for the dispensaries saying that hey they didn’t miss their timelines and that you cannot pull this data from them just unconstitutional or whatever they want to say it’s not right to be pulling this data now from here understand that this case now is stuck in court for lots of years racking up those penalties and racking up those fines and most importantly the cost that’s never talked about is racking up all these legal fees by lawyers who are just having you on the clock pulling and pulling and pulling this information for you and doing doing the work hey they deserve to get paid i’m not saying that lawyers don’t deserve to get paid but this is a very expensive process if a lawyer is going to fight the irs for you now the cannabis dispensaries lawyer they had made arguments for again or by asking for this additional data uh was unnecessary essentially now those arguments were number one the irs’s investigation is quasi-criminal yes the lawyer said this about the irs and exceeds the agency’s authority and is being conducted in an illegitimate purpose okay well how it came back the court said hey the irs was conducting this investigation in good faith and followed all their protocols so this argument is gone and off the table now the second argument the lawyers tried to stand on and the dispensary tried to stand on because they did sign off on this is that even if the investigation was a legitimate investigation it had a legitimate purpose the information sought is irrelevant well in general what you need to understand is that the irs has what we call broad latitude to issue summonses for the purpose of ascertaining the correctness of any return making a return where none has been made or determining the liability of a person for internal revenue tax or collecting any such liability so pretty much the irs can ask for whatever they want to substantiate your return so this argument is gone and off the table now the third so the third argument here that we have is that the lawyer said the investigation is in bad faith and constitutes an abusive process because a the irs may share the information collected with federal law enforcement agents well guess what they dispense they want us to not do this because they didn’t want to get a you know anything with the doj department of justice you know dea coming up at them now guess what the dispensary is blatantly selling cannabis and anyone in the general area could tell that and so any enforcement agent could have you know just walked into the area and learned this on their own so this argument off the table now b why this constitutes an abusive process what the lawyers said is that the irs summons was overly broad and require the creation of new reports guess what doesn’t matter this has no bearing you the taxpayer and not the irs needs to provide data to back up your tax position if you created a tax position with no backup data this is now your big big big problem it doesn’t matter if you have to unearth a hard drive from the landfill to back up your tax position you better find that hard drive okay so this point is off the you know off the table and then there’s two more here to base that this was an abuse of power by the irs what the lawyer said was that the dispensaries have a reasonable expectation of privacy in data they tender to a state regulatory authority pretty much from another cannabis tax case the precedent was already said that the taxpayers have no reasonable expectation of privacy in the metric data collected on their business essentially a person has no legitimate expectation of privacy in information that they voluntarily turn over to third parties okay that is verbatim from a previous case so that point is off the table now the last one here why this case could have been potentially an abuse of power by the irs the lawyer said is that those state authorities cannot provide this requested information without violating colorado law i’ll save you the explanation guess what it came right off the table they looked at other precedents and it said that the court therefore concluded that med employees which is the marijuana enforcement division in colorado their employees compliance with the summons seeking metric information would not constitute a crime so pretty much all the arguments for the dispensary were easily thrown out by anyone that has half a brain and can read taught precedence okay now let’s keep walking through this here and we’ll talk about the result results of this cannabis tax court case okay as you may understand or may guess by now the dispensary lost their appeal and the irs will get the requested data the metric data themselves from metric or from the med which is the marijuana enforcement division in colorado but now the cannabis company is going to cost them a lot a lot more money compared to if they just shared the data four or five years ago with the irs now here is the court’s verbatim response and i need you to pay attention to this this is incredibly important they say about the arguments we just talked about that these arguments start to quote right here these arguments are familiar to uh to us over the last several years multiple colorado marijuana dispensaries have challenged the irs’s ability to investigate and impose tax consequences upon those dispensaries understand that those dispensaries have been represented by the same attorneys that are representing the dispensaries fighting the summonses in this case those dispensaries have lost every time and it ends here saying the same result is warranted here and then they then list off all the cases where these same exact lawyers lost on those same arguments it’s essentially the same case and these lawyers are just cutting and pasting and repeating of course change a little bit of specific information but they use the same arguments and they lost for their client and i’m sure they knew they were going to lose they’re just trying to get those fees and shoot their shot see what happens so here’s what happened to the dispensary right they got audited they didn’t like the outcome and they engaged in expensive legal group who used unoriginal arguments that always lose to give false hope to the dispensary owners the dispensary lost and now they are out a lot more money compared to if they had just simply number one filed their taxes properly in 2013 and 2014 and kept accurate records to substantiate their tax return position number two if they had complied with the auditors when they requested more documentation if you just play by play ball with the irs you’re gonna probably end up in a better spot unless you just go ahead and say all right let’s go do legal stuff on them and see if we can push them you will you will not win okay and number three if they had just at the end of the audit worked with the irs to set up a payment plan and then just start paying down that debt maybe they didn’t have the money at the time and someone said hey fight it kick the can down the road and maybe you can win a judgment later or you know whatever’s gonna happen but again putting these things in the court for multiple years your penalties your interest and your fines are going to rise rise rise and you’re going to be caught holding the bag and the lawyer is going to say well sorry we tried can’t help you out okay so this is not what you want to do you do not want to go against the irs so lessons and what this means for the cannabis industry okay i want to start this off before we go into the four lessons that i want to cover i want to talk about audits in general just real quick we’ve talked about this at length in many other videos you may have not seen them but you will likely get audited as a cannabis business okay one in five cannabis businesses in the state of colorado is being audited at some level of the government now why colorado would have bring that stat up that stat that we have from boots on the ground from tax lawyers and cpas on the ground but also because it’s the first recreational legitimate market so they’ve got a little bit of headway if you look at these timelines we’re talking about tax returns from 13 and 14. this is not when it was recreational but at any rate you’re going to start seeing audits from those first few years of the recreational market because they need to wait a little bit of time so they can go back and actually do that and process takes a long time so what should you do when you get audited as a cannabis company number one you need to contact your cpa immediately and let them know the state of your situation now from there you’re going to take specific advice from them but generally what you’re going to do is respond back to that data request from the irs with complete information and you’re going to be courteous throughout the entire process as well even if you have to be the bigger person be that bigger person you don’t want to piss off an auditor and lastly if you do get a judgment consider what they call an offer in compromise which is hey say they left me a thing of you know 700 000 what if you could offer them 500 000 and just call it a day see if they’re able to do that with you if not then get on a payment plan that works for you and your financial situation do not try to be a renegade and try to challenge the irs on their practices that are well established with court precedence and it just will not end well so those are the steps to take for a cannabis tax audit now let’s hop into four lessons here that i want to kind of extrapolate from this uh this court case here okay so number one the first lesson is that organizational entity structures are incredibly important for cannabis based businesses now some of the entities that were involved in this tax court case were llc’s and these are called these are called pass-through entities essentially all the financials flow the business through the business pass through onto the member of the llc which could be multiple or single members now what this means is that if you’re being audited and you have you know an llc as one of your entities they can now dig into your personal 1040 your personal tax returns and look into those things now if you’re married they can start to pull apart all your spouse’s stuff and i’m sure you don’t want that okay now they’re gonna also be able to look into your personal bank account information now maybe they look and they see a twelve thousand dollar deposit for cash okay you better have a receipt to substantiate what that was from and that it wasn’t diversion of cash from your cannabis business out of the business and into your personal pocket okay now another reason why it’s important to have proper proper entity structure is that when they audit you as an llc you’re going to get well i would say you’re going to get taxed at your personal tax rate which could be 30 40 even 50 percent depending on your tax bracket now at a corporate tax rate it’s capped at 21 as a c corp so it’s very important to work with a cpa and a lawyer to decide on the right entity structure for your cannabis business from the get-go having a balance of risk and of the economics of the business and the deals that you are creating with your business so that’s lesson number one now lesson number two is that you want to make sure that you work with experienced professionals to file and prepare your cannabis business tax returns investing in a cpa that can give you the proper guidance on irc 280e can be an incredible investment that can serve you big time and save you big money on your cannabis business tax returns and if you get audited you already have someone in your corner who can help you work with the irs to reaffirm your tax position because any credible cpa is not going to create a tax return and prepare a tax return for a cannabis business without having any substantiating information behind the numbers that create that return if you’re working with someone that’s not you are having backup data for your tax return to substantiate those claims you better wanna you maybe you wanna look for somebody else to work with hey hit us up hit our website greengrowthcpas.com or call us at 800-674-9050 or always be here but really work with somebody experienced don’t just try to save 500 or a thousand dollars in your tax prep fees only to later be given you know a huge punch in the mouth by the irs because you just wanted to save a thousand bucks and now you’re holding the bag for 100 grand in taxes that is not a smart choice on saving money don’t cut corners on cpas and don’t cut corners on your lawyers now the third lesson i want to talk about here is that if you are being audited by the irs or any level of the government in a tax agency then you should consider engaging a cpa first before you engage your lawyer understand that you’re not in any legal trouble here you don’t need a lawyer right now you need a cpa who can interface with you and the irs to make sure that your tax position is sustained substantiated now there are many amazing lawyers out there and i’m not trying to say don’t work with lawyers and i’m not anti-lawyer i think lawyers are essential to everything to protect you to make sure you’re doing things right so please do work with lawyers you will need lawyers in the campus industry there’s i don’t think anybody that can make it through two or three years without having to contact a lawyer at least one time now having a cpa can help put you at ease and help you actually remedy the situation instead of getting hostile and being sue crazy and posturing up to the irs and saying bring it bro because look they will bring it bro and they will smash you okay now again you’re not in any legal trouble they just want clarification so you know don’t start seeking your lawyers on the irs right away work with your cpa first if they can’t remedy it then seek the help of a lawyer now the irs they want to see it you’re probably going to have to show it especially if you’re a cannabis business so don’t think that you have some type of power where you don’t have to show things off to the irs they will find a way to get around it trust me they have all the time it’s not time is not in your favor because interest and penalties are racking up every month they’ll take five six years to do what they want to do because they know that it’ll make them more money now here’s a point to the dispensary but i’m going to take it away from them immediately i think i covered this a little bit at the beginning what the dispenser was afraid of is essentially that the irs is going to hand that metric data over to the doj the department of justice who would then kick off an investigation for criminal drug trafficking well guess what this is well sit back the dispensary wanted immunity from the doj if they were going to hand this information over and look i totally get it it’s pre-recreational they probably and it’s federally illegal so they were a little bit nervous handing this data over but but is where the point gets taken away from the dispensary look they’re advertising that they are the number one dispensary in colorado and anyone with a medical card could just walk in there and see that they were breaking federal laws it doesn’t take you know undercover investigation to unearth this or a phishing expedition by the irs to show that you’re trafficking cannabis it’s very obvious we can just see it from the street we can probably smell it from the street so again all of these things that the dispensary used as how do you say defenses and arguments were already set by precedent that they were you know null and void you were they were never going to win once this brief was filed by an appeal was filed by the lawyers it was lost it was already dead on arrival so look the only people that made out in this are the irs and the lawyers and lawyers they said hey we’ll help this cannabis business but they can’t make any guarantees and no one would ask for guarantees you can’t guarantee these type of things but they should have known anyone with half a brain would have known that they were going to lose this battle now the fourth lesson will round it out here 280e is going nowhere it is here to stay unless cannabis is rescheduled out of schedule 1 in schedule 2 of the controlled substances act now don’t let any lawyers or any inexperienced tax professionals tell you that you can beat the irs when it comes to 280e look several high profile cases in many more not so high profile cases have shown time and time again that the u.s government will not back down from enforcing irc 280e so what you can do is prepare your taxes in accordance with tax laws and precedence set forth okay don’t use any new tax loopholes don’t read some stupid blog by some cpa saying oh you can try this thing out don’t be a renegade and try some crazy new thing out do things that are proven and tested by the tax courts and reaffirm reaffirmed by the irs that yes this is the way that you file your taxes as a cannabis business and look don’t do any funny business with your cogs don’t try any that funny stuff okay you have to have a reasonable methodology don’t just start stuffing things into your cogs and think you’re going to get away with it because you’re going to have to back up every one of those things that you said you would do okay and conversely from that position you know if you want to be a renegade or you don’t want to do and you want to go ahead and you know uh do all this stuff hey that’s your own prerogative right some people say hey this is a negative mindset jim don’t put yourself in that mindset and we should fight the tax man and fight the pressure of the irs hey your position is your choice and if you want to be a champion for the industry and fight the fight hey that’s your choice i wish you much success our company wishes you much success but you knew the tax issues that were in this industry if you did even one day of due diligence when researching the cannabis industry so don’t come out here and say you didn’t know this is the way it was you have to do your due diligence okay and conversely from that position if you want to fight the fight great but again conversely there are plenty in most i would say an overwhelming majority of canvas business operators are out there now building their business paying their taxes potentially even paying too much tax they should reach out to us we can help them with that and they’re making the best of this current scenario they’re not sitting there griping about how unfair it is they knew coming in that it was going to be relatively unfair compared to other ordinary businesses in the tax realm but they’re going to do what they have to do to sustain over a few periods a few year period or maybe maybe eight years until it gets rescheduled who knows at any rate they know that they’re coming into a tough situation they’re gonna make the best of it and they’re gonna hopefully be successful for the long term now hopefully this video has brought you some value and helped you to better understand how fighting the irs on well established precedents around irc 280e will only result in you paying higher taxes and incredibly unnecessary legal fees now if you need help with cannabis business taxes cannabis accounting or help with your cannabis business tax audit then please reach out to us via our website at greengrowthcpas.com or give us a call at 800-674-9050 all right so let’s hop in here let’s answer some questions if there’s any questions here the goat tree says hey guilty until proven innocent welcome to dealing with the irs essentially yeah it’s gonna be guilty until proven innocent that’s not really how it is but it looks like that you have to substantiate your tax return it’s not the they call the burden of proof is not on the irs to say that you’re wrong it’s the burden of proof on you to say that you’re right and here are all the reasons why you’re right so look it may seem unfair but you should know this stuff going into the cannabis industry if you don’t know this you’ve obviously not done enough research on the legitimate legal cannabis industry if you’re operating in the gray market or the illicit market or the illegal market and you know you get into the legit market and you want to gripe about it hey you should have looked at this but also understand if you are in the gray market illegal market the illicit market you still have to pay taxes on illegal money it doesn’t matter how you make this money you still have to pay the irs so it doesn’t matter really if you’re licensed or not you still have to pay taxes and you still have to do all of your accounting like a regular cannabis business and you know if you don’t right look at people like the the al capone’s of the world they don’t go down for killing people or selling drugs or doing really bad things they go down for tax evasion so make sure that you’re paying your taxes on all of your income legal or illegal all right let’s see if there’s any more questions in here i don’t see any other questions so we’re going to sign off on this again if you have any questions about cannabis tax audits or if you need help with your cannabis business taxes then please reach out to us via our website at greengrowthcpas.com or give us a call at 800-674-9050 have a great day and we’ll talk to you soon

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