On August 2, 2021, the Tax Court issued a Memorandum Opinion in the case of Today’s Health Care II LLC v. Commissioner (T.C. Memo. 2021-96). The primary issue presented in Today’s Health Care was whether IRC § 280E (Expenditures in Connection with the Illegal Sale of Drugs) violated the Eighth or Sixteenth Amendments to the Constitution.
Held: Not today, hippie.
Note: Even the initials of the company (T.H.C.) are pot-induced. Kudos, stoners.
Background to Today’s Health Care
Today’s Health Care (THC) is a Colorado LLC organized in 2010 for the purpose of doing business as a retail dispensary licensed and authorized to cultivate, manufacture, distribute, and sell medical marijuana products in accordance with Colorado State law. At the time it filed the petition, THC’s principal place of business was in Colorado Springs, Colorado. During 2014 and 2015, THC operated a marijuana grow facility and two retail dispensaries in Colorado Springs. THC grew, harvested, and processed marijuana at the grow facilities and then sold the marijuana and other products including marijuana-infused edibles, creams, concentrates, and paraphernalia at its retail locations. In each year of operation, THC incurred costs of goods sold (“COGS”) and ordinary and necessary business expenses attributable to its marijuana growing and retail operations.
THC did not account for IRC § 280E on any of its returns from 2010 through 2015; rather, it deducted expenses whose deduction is disallowed by that section. For 2014 and 2015 (the years at issue), THC elected to be treated as a C corporation for Federal tax purposes and filed Forms 1120, “U.S. Corporation Income Tax Return”. On each Form 1120, THC calculated its total income by subtracting COGS from gross receipts and then claiming deductions from income for ordinary and necessary business expenses attributable to its growing and retail operations.
Examination and Notice of Deficiency
The IRS examined THC’s returns for 2014 and 2015. The IRS allowed COGS that THC claimed but made various adjustments to the claimed COGS amounts–recharacterizing, in THC’s favor, a portion of THC’s business deductions for each year as COGS. The IRS otherwise disallowed under section 280E $846,324 of claimed business expense deductions for 2014 and $561,176 for 2015. (The disallowed amounts included the NOL carryforwards from 2011 and 2012, which the parties stipulated would not have been available if THC had accounted for section 280E in prior years.) On the basis of those disallowances, the IRS issued an SNOD determining deficiencies and accuracy-related penalties for the years at issue.
Judge Gustafson is the “Man,” man…
IRC § 280E provides as follows:
No deduction or credit shall be allowed for any amount paid or incurred during the taxable year in carrying on any trade or business if such trade or business (or the activities which comprise such trade or business) consists of trafficking in controlled substances (within the meaning of schedule I and II of the Controlled Substances Act) which is prohibited by Federal law or the law of any State in which such trade or business is conducted.
THC acknowledges that its marijuana business consists of trafficking in a controlled substance. It argues, however, that disallowing deductions for its ordinary and necessary business expenses under IRC § 280E violates the Constitution—in particular, the Eighth Amendment (which prohibits “excessive fines”) and the Sixteenth Amendment (which authorizes “taxes on incomes”).
This Court (and Judge Gustafson, himself) previously held, in a precedential opinion reviewed by the entire Tax Court pursuant to IRC § 7460(b), that disallowing deductions for ordinary and necessary business expenses under IRC § 280E does not violate the Eighth or Sixteenth Amendment. See N. Cal. Small Bus. Assistants Inc. v. Commissioner, 153 T.C. 65 (2019).
The Tax Court did not depart from its holding in N. Cal. Small Bus. Assistants.
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