Guidance for Colorado Medical
Marijuana Providers:
Accounting Practices to Ensure Compliance
with Internal Revenue Code Section 280E
Prepared by the National Cannabis Industry Association
©2011
Background
The Theory in Support of the Industry Standards Described Herein
Internal Revenue Code Section 280E disallows business expenses that
are incurred in a trade or business of trafficking in controlled
substances. Cannabis, or marijuana, continues to be treated as a
controlled substance under the federal Controlled Substances Act of
1970 even though 16 states and the District of Columbia so far have
passed legislation legalizing the use and, in some cases, the
dispensing of cannabis for medical purposes. Although a bill has been
introduced in Congress to modify Section 280E (H.R. 1985), the
Internal Revenue Code has not yet been amended to recognize the
legitimacy of medical cannabis businesses. Until the tax code is
corrected, tax and accounting professionals must continue to reduce
their deductions by the portion that is deemed attributable to
"trafficking" in cannabis.
The most important factor to keep in mind when you are keeping
your records and preparing your federal income tax returns is that
280E only applies to "below the line" calculations. Anything "above
the line," meaning your cost of good sold (COGS), will not be affected
by Section 280E. Since medical marijuana centers (MMCs) and
marijuana-infused product manufacturers (MIPs) in Colorado are
vertically integrated, comprising both cultivation/production and
sales, these businesses will have a substantial portion of their
expenses categorized as COGS.
This memo has been produced by the National Cannabis Industry
Association, the only national industry association representing the
medical cannabis industry at the federal level, in order to provide
guidance to our member businesses in Colorado involved in the sale
of cannabis to state-approved patients. It outlines what we intend to
be an industry standard for tax accounting practices under Section
280E, consistent with the legal precedent established in Californians
HelpLfJQ19 Alleviate Medical Problems v. COf1]missioner, 128 T.C. No.
14 (CHAMP), wherein the court sanctioned the bifurcation of
expenses between those attributable to "trafficking" and those that
are not.
This guidance has been produced by leading experts in the field, with
significant input from industry members who are intimately familiar
with the realities of running a medical cannabis business. These
individuals, while supporting reform of Section 280E so that medical
cannabis businesses are treated like any other business under federal
tax laws, are dedicated to facilitating compliance with the section as it
now stands. NCIA members are committed to complying with all
existing regulations and tax laws at both the state and federal level.
A second factor to consider is whether your MMC provides additional
services to patients. Examples of such services include (but are not
limited to) counseling, acupuncture, nutritional training and advice,
chiropractic services, and pain management treatments. The IRS has
acknowledged that these services are outside the scope of Section
280E, and therefore expenses related to these services are
completely deductible, pursuant to the approach allowed by the Tax
Court in the case cited above.
Finally, MMCs should consider what portion of their facility is
dedicated to the sale of medical cannabis and what portion of their
employees' time is dedicated to direct sales. With respect to
employees, this is not just a question of whether they are growers,
administrative staff or cannabis consultants behind the counter. Even
the consultants' time may be split between sales and non-sales
activity.
Patients seek advice from dispensary personnel on aspects related to
the different strains and forms of medicinal cannabis. They want to
know which strains may be high in CBD (cannabidiol), which strains
are better for improving appetite, which strains are better for
improving sleep, etc. Additionally, they need advice regarding which
form may be best suited to their medical need: should they use
concentrates, tinctures, edibles, or salves? When dispensary
personnel provide this advice, they are not engaging in "trafficking;"
they are counseling or consulting.
to 80 percent of electricity costs at a combined cultivation-retail
facility to production/COGS is reasonable.
In the CHAMP case, the Tax Court noted that the gerund "trafficking"
should be referenced to the verb "traffic" which denotes "to engage
in commercial activity: buy and sell regularly." Therefore, "trafficking" )
\.
does not include the provision of the kind of advice described above.
Overall, it will be helpful to think about an MMC as a "wellness
J
center." It is a place where patients go for medical advice, education,
counseling, and other health related services. Purchasing medical
cannabis is just part of the patient's purpose.
Employees: All employee costs (wages, taxes, benefits, etc.)
dedicated to cultivating, processing, packaging, labeling, and
transporting (from cultivation facility to retail facility) cannabis should
be allocated under COGS. If any employee's time is split between
COGS activities and non-COGS activities, that employee's hours
should be tracked and recorded so that the appropriate portion can
be allocated under COGS.
"Below the line/~~1<Q~_Il!i_~_~: Once a business has allocated a portion of
its expenses to costs of good sold, it is necessary to determine what
portion of its additional expenses will be allocated to sales, and thus
not allowable as a business expense under Section 280E. NCIA
recommends using the following methods to determine these
allocations:
Industry Standards for Medical Cannabis Businesses
Cost of Goods Sold: Using whichever accounting method you feel
most comfortable with, include all costs associated with cultivating,
processing, packaging, labeling, and transporting (from cultivation
facility to retail facility) cannabis under your costs of goods sold.
Note: NCIA recommends applying the provisions of Section 263A,
which applies to "manufacturing" products, when calculating your
costs of goods sold. This will allow overhead to be allocated to cost of
goods sold and ending inventory.
Occupancy: If your cultivation is off-site, allocate all direct
occupancy costs (rent, security, etc.) associated with the cultivation
facility under COGS. If cultivation and sales take place within the same
facility, use a square footage calculation to determine what percent
of your facility is dedicated to cultivation, processing, packaging
labeling, etc.
Utilities: If your cultivation takes place off-site, it should be
easy to separate utilities bills between COGS and "below the line"
operations. If cultivation and sales take place within the same
premises, reasonable allocations will be needed. The most significant
allocation will be related to electricity. Based on a comparison of
cultivation and retail facilities, NCIA has determined that allocating up
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Occupancy: Beyond allocating occupancy between COGS and
non-COGS activities, medical cannabis businesses may also further
allocate the non-COGS costs between sales and non-sales activities.
As suggested above, the recommended method for doing so is the
square footage calculation. Here, this is accomplished by measuring
the square footage of the sales space. This will typically be the space
around the sales counter. Using this number in the numerator, and
total square footage of the non-COGS space in the denominator,
which includes any space used for additional services, such as
massage therapy or acupuncture, apply this fraction to all non-COGS
occupancy costs.
Administration/operations: It is important to distinguish
between administrative and operational costs and costs associated
with sales. For example, the cost of a computer used to track patient
records would not be a "sales" cost. But a cash register purchased to
conduct and track sales would be. One major cost that should be
categorized as operations, rather than sales, is security. Video
monitoring equipment does not facilitate a sale; it ensures the safety
of employees and customers and, in Colorado, provide the state with
the ability to monitor operations.
"Additional" services: All costs associated with additional
services, such as massage therapy or acupuncture, are non-sales
expenses. This includes sums paid to any individual who provides
these services on behalf of the MMC. If this person is an employee of
the MMC, the employee would be considered a "service provider,"
per the four categories of employees detailed below.
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Advertising/promotion: Advertising and promotion costs,
including producing and maintaining a website, should generally be
categorized as sales costs. An MMC or a MIP may, however, in certain
circumstance, allocate a portion of these costs to non-sales purposes
(e.g., an ad for an event sponsored by an MMC where no sales were
conducted). The burden shall be on the business to demonstrate that
all or part of an advertising or promotion cost was not related to sales.
Employees: For tax purposes, MMCs and MIPs should have
four categories of employees: producers, administrative staff, service
providers and "cannabis consultants." We are using the term
cannabis consultants to refer to employees who work behind the
counter at MMCs and service the patients, as well as MIP employees
responsible for representing their MIP at MMCs around the state. In
each case, the employee's job is not just about "sales," but also
involves a certain amount of educating and/or counseling. "Producers"
are the COGS employees described above, whether that COGS work is
full-time or part-time. Administrative staff covers receptionists,
bookkeepers and employees handling other non-sales tasks, such as
inventory and basic facility maintenance. Any time spent in these
roles, either full-time or part-time, should be deductible. Owners and
managers shall be considered full-time administrative staff, provided
they do not engage in direct sales of cannabis. If they engage in sales,
the portion of their time dedicated to sales shall not be deductible.
Important: As noted in the introduction, it is commonly accepted that
some portion of a cannabis consultant's time is dedicated to sales and
some portion is not. The correct allocation will depend on the facts,
circumstances and business practices in each MMC, and on the
development of an understanding between the taxpayer and the IRS.
Conservatively, between time spent on inventory control, education
and other non-sales activities, it is reasonable to deduct, at a
minimum, 30 percent of an MMC cannabis consultant's salary. (If an
employee only works in a cannabis consultant role part-time, you
would deduct 30 percent (or more) of the portion of his or her salary
allocated to consulting. The non-consulting portion of his or her salary
would be entirely deductible.) With respect to MIP cannabis
consultants, who are likely to travel extensively, the percentage of
non-sales time could be significantly higher than 30 percent.
Documentation is strongly recommended: If you are ever
audited by the IRS, it will be extremely beneficial to have the
information described above documented. This is especially true for
the way in which your employees' time is allocated between the four
categories of work. We recommend that you devise a system for
logging your employees' time and stress the importance of this log to
employees and managers.
For more information, visit www.TheCannabislndustry.org and
www.280ereform.org
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*** NCiA has produced these guidelines to assist Colorado medical
cannabis businesses. But they are not intended to take the place of
professional accounting services. Please be sure to consult with a tax
advisor before you adopt or enact new accounting procedures. If you
receive an audit notice from the IRS, we strongly suggest that you
consult with legal counsel before talking with an IRS agent. ***
This document prepared and published with the assistance of:
II·
I
Providing Nationwide Tax
Counsel for the Cannabis Industry
(415) 788-4545
www.Wykowskilaw.com
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WWW.VICENTESEDERBERG.COMI303-860-4501
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Colorado Medical Marijuana Fact Sheet
March 2012
2010-2011 MEDICAL MARIJUANA SALES TAX REVENUE*
• To date, Colorado medical marijuana businesses have paid approximately $20 million in local, state and
federal taxes, and another $9 million in licensing and application fees.
• $2 million annually (beginning 2010) appropriated to the Dept. Human Services for helping those with
mental health and substance abuse treatment needs. These funds are critical for programs such as the
Circle Program at Pueblo's Colorado Institute of Mental Health.
Filing Period (Month)
January' 10
February '10
March '10
April '10
May '10
June '10
July '10
August '10
September' 10 - December' 10
Sales Tax Collected in CO
$162,000
$180,000
$362,000
$238,000
$253,000
$440,000
$315,000
$287,000
no data available
Reported Annual Total 2010
$2,237,000
Reported Annual Total 2011
$5,000,000
MEDICAL MARIJUANA PATIENT STATISTICS t
•
•
•
•
82,089 registered patients in Colorado
42 years is the average age of all patients
32 % of patients are female
55 % of patients reside in the Denver-metro area (within the seven metro-area counties).
JOB CREATION#
• There are approximately 2,000 licensed medical marijuana business and cultivation centers in Colorado.
All of these businesses are regulated by both state and local governments.
• It is estimated that roughly 4,200 direct jobs have been created in Colorado through licensed medical
marijuana businesses since 2010.
• The impact on ancillary businesses is tremendous: average capital expenditures estimated at $50,000 per
medical marijuana business, for a total of over $100 million dollars of capital expenditures statewide.
·Statistics provided by the Colorado Department of Revenue. Additional numbers to be released from the Dept. after June 2012
tStatistics provided by the Colorado Department of Public Health and the Environment (CDPHE) on Dec. 31, 2011
#Statistics provided by the Colorado Medical Marijuana Enforcement Division (MMED) on March 9, 2012
For more iY!fo. contact Sensible Colorado, afederally recognized non-profit, at 720.890.4247, or
Brian(ii~SensibleColorado.org