According to the Court’s ruling in Hemp Industries Assn. vs. U.S. Drug Enforcement Admin. case; expenses incurred through an activity conducted strictly within the parameters of the Farm Bill are not subject to IRC 280E.
First, let’s understand 280E.
IRC 280E applies to activities enlisted under schedule I and schedule II of Controlled Substances Act. The businesses it applies to cannot deduct its operating expenses while calculating gross profit. As a result, such businesses are taxed at a paying rate of 70%.
What does Section 7606 of Farm Bill say?
According to Section 7606, the Farm Bill allows a State to grow “Industrial Hemp” and saves it from the application of 280E if, the following conditions are satisfied:
- It has implemented an official “agricultural pilot program” allowing the cultivation of “Industrial Hemp.”
- Any part of the cannabis sativa plant has less than 0.3% THC on a dry weight basis.
If above conditions are not satisfied, the cultivator is operating outside of the federal law and is therefor subject to IRC 280E.
Why is this such a big deal?
If IRC 280E applies to a hemp business, it would not be able to deduct its expenses and hence the taxation rate would be much higher than other US business. Clearly, IRC 280E puts these businesses at a competitive disadvantage. The disadvantage can be so severe as to be fatal in certain cases.
Understanding taxation for industrial hemp.
- If the business complies with Farm Bill: The cannabis business may deduct costs under IRC 471 and related regulations. IRC 471 includes deducting costs incident and necessary to production including:
- Direct material costs;
- Direct labor costs;
- Rent (real estate and equipment); and
- Quality control.
Depending on treatment for financial statement purposes, the following indirect costs may be included in the cost of goods sold including:
- Taxes necessary for production;
- Employee benefits,
- Factory costs
- Administrative Insurance.
- If the business does not comply with Farm Bill: the application of IRC 280E will have a detrimental impact on hemp producers, wholesalers, and retailers of CBD products. IRC 280E would operate to disallow a deduction for most overhead costs. This will have an especially severe impact on mixed retail businesses that sell CBD products in conjunction with other products.
Section 280E puts industrial hemp businesses in a disadvantageous position. The Hemp Farming Act of 2018 which does bring along rays of hope for hemp/CBD businesses as it would explicitly remove Industrial Hemp and derivatives of cannabis cultivar from the scope of the Controlled Substances Act.