Illinois tax policy has undergone a major change for the cannabis industry this legislative session. Cannabis establishments, cultivation centers, and medical cannabis dispensaries can now deduct business expenses on their state taxes currently disallowed on federal taxes under Section 280E of the Internal Revenue Code.
This exemption, effective from January 1, 2023, aims to alleviate the tax burden on cannabis businesses operating within the state. In this article, we will explore the implications of this exemption and its potential impact on the cannabis industry in Illinois.
Background on Section 280E
Section 280E of the Internal Revenue Code is a federal tax provision. It prohibits businesses involved in the trafficking of controlled substances, including marijuana, from deducting ordinary business expenses. This applies when calculating federal taxable income. Since marijuana remains a Schedule I controlled substance at the federal level, cannabis businesses in states where it is legal under state law have faced significant challenges regarding federal tax liabilities.
The Exemption and its Effects
The new Illinois tax provision, included in House Bill 3817, allows cannabis operators in the state licensed under the Cannabis Regulation and Tax Act, or the Compassionate Use of Medical Cannabis Program Act, to claim deductions that are disallowed on federal taxes under Section 280E. This exemption reduces the tax burden for cannabis businesses within Illinois.
Under the exemption, qualifying cannabis businesses can deduct ordinary business expenses from their state-taxable income. Deductions that are currently disallowed for federal taxes. Illinois aims to create a more level playing field for cannabis businesses by allowing state deductions. This could foster growth and economic development within the cannabis industry in the state.
Impact on the Illinois Cannabis Industry
The exemption from Section 280E in Illinois is expected to have several positive implications for the cannabis industry:
- Reduced Tax Liability: Businesses can now deduct ordinary business expenses when calculating their state taxable income. This includes rent, employee wages, and sales & sales marketing costs. This deduction will lower their overall tax liability in Illinois, potentially improving profitability and encouraging business expansion.
- Increased Competitiveness: The exemption gives Illinois-based cannabis businesses a competitive advantage over counterparts in states that adhere strictly to federal tax regulations. With the ability to claim deductions, these businesses can reinvest their savings, enhance operations, and compete more effectively in the market.
- Attracting Investment: The reduced tax burden resulting from the exemption may make Illinois a more attractive destination for investors in the cannabis industry. The potential for increased profits and better business opportunities could encourage investment. This could result in further expansion and the creation of more jobs in the state.
- State Revenue Generation: While cannabis businesses may benefit from the exemption, the State of Illinois will also gain from increased tax revenues. As businesses can deduct expenses to reduce their tax liability, the overall tax base will likely expand. Resulting in higher tax collections for the state.
Looking Ahead
Illinois’ state tax exemption from Section 280E marks a significant milestone in the evolution of the cannabis industry. Illinois aims to foster growth, improve competition, and attract investment in the cannabis sector.
They are doing this by allowing businesses to claim deductions that are disallowed by federal law. As the implications of this exemption unfold, it will be interesting to observe its impact on the cannabis industry in Illinois. We hope this move serves as a model for other states seeking to support and nurture their own legal cannabis markets.
280E is still federal law. Therefore, businesses operating in Illinois must continue following best practices tracking their financial information. These accounting practices should include deducting cost of goods sold (COGS) and adhering to section § 1.471-1 of the federal tax code, which defines inventory capitalization rules to maximize tax deductions.
At the state level, the federally non-deductible expenses will then be added back in to reduce the state tax burden.
Need Help Navigating the Tax Landscape?
Illinois highlights how rapidly state and local tax requirements are evolving for the cannabis industry as it grows. These may include excise, sales, and special taxes specific to the cannabis industry. Understanding and complying with regulations in the cannabis industry requires knowledge and expertise. Hiring the right tax accountant, with experience in this industry, is invaluable.
Selecting an accounting firm specializing in the cannabis industry is crucial for the financial success and compliance of your cannabis company. Partner with GreenGrowth CPAs to give your cannabis business peace of mind. Your financial affairs will be in the hands of experienced professionals committed to your success.
