Section 280E of the Internal Revenue Code (the “Code”) prohibits any deductions or credits for any business engaged in the trafficking of controlled substances which is prohibited by federal or state law. This section of the Code has long-prohibited taxpayers engaged in the marijuana basis from deducting expenses – other than cost of goods sold – for tax purposes. The result is that marijuana businesses pay tax on a much higher portion of their revenue than just about any other business because they cannot deduct other expenses, such as rent, utilities, and wages.
This structure is changing after the Drug Enforcement Agency (“DEA”) rescheduled medical marijuana from Schedule I to Schedule III in April 2026. This rescheduling is narrowly tailored to “an FDA-approved drug product or marijuana subject to a state medical marijuana license…” Importantly, this rescheduling does not apply to recreational marijuana.
Taxpayers operating marijuana dispensaries in states where medical marijuana is legal can now deduct all eligible expenses, not just cost of goods sold, to the extent the expenses are related to medical marijuana sales.
Since many dispensaries sell both recreational and medical marijuana, careful record-keeping will be critical. Any expenses (other than cost of goods sold) related to the recreational marijuana remain non-deductible under Section 280E of the Code. Businesses need to keep clear records of how they allocate expenses between recreational marijuana sales and medical marijuana sales because this allocation is likely to be a focus of any audit of a marijuana business. Businesses also need to keep careful records of sales of medical marijuana as opposed to recreational marijuana.
When DEA announced the rescheduling of medical marijuana to Schedule III, it encouraged the Department of the Treasury to consider granting retroactive relief to dispensaries. The Department of the Treasury has not announced any retroactive relief. However, some practitioners advise their dispensary clients to file protective claims for refund in case this retroactive relief is granted in the future.
The rescheduling may also allow individual taxpayers to deduct the cost of their medical marijuana as an itemized medical deduction – provided the taxpayer meets all requirements for the deduction.
