Bloomberg Tax
Oct. 23, 2019, 8:27 PMUpdated: Oct. 23, 2019, 10:26 PM

Medical Marijuana Business Deduction Ban Upheld by Tax Court (2)

Aysha Bagchi
Aysha Bagchi

A tax code provision blocking marijuana companies from getting federal tax deductions is constitutional, the U.S. Tax Court ruled Oct. 23.

The case arose after the IRS billed Northern California Small Business Assistants Inc.—a California medical marijuana company—for $1.5 million in unpaid taxes and an accuracy-related penalty for the 2012 tax year.

The agency had disallowed the company’s tax deductions under tax code Section 280E, which says that a business that consists of trafficking in a Schedule I or II controlled substance can’t receive any tax deductions.

Many cannabis companies that are legal under state law are facing effective tax rates as high as 70% because the federal government considers them to be trafficking in a Schedule I substance. The companies are nonetheless able to reduce their income subject to tax by an amount equal to their inventory costs.

“Despite efforts by several States to legalize marijuana use to varying degrees, it remains a Schedule I controlled substance within the meaning of the Controlled Substances Act,” Senior Judge Joseph Goeke said.


The company argued Section 280E violated the Eighth Amendment’s prohibition on excessive fines by imposing a penalty through a tax on the company’s gross receipts. The Excessive Fines Clause guards against abuses of the government’s right to punish.

But the court held that the section doesn’t violate the constitution because it isn’t a penalty provision.

“Unlike in other contexts where the Supreme Court has found a financial burden to be a penalty, disallowing a deduction from gross income is not a punishment,” Goeke said.

The company also argued that the IRS should apply the section more narrowly even if it were constitutional, so that it blocks business deductions that are ordinary and necessary under tax code Section 162 but not deductions from other tax code sections.

The court resisted this urging.

“Congress could not have been clearer in drafting this section of the Code,” Goeke said.


Judge David Gustafson wrote a partial dissent, saying he believed the section unconstitutionally exceeds the power Congress has under the Sixteenth Amendment to impose an income tax.

“I would hold that this wholesale disallowance of all deductions transforms the ostensible income tax into something that is not an income tax at all, but rather a tax on an amount greater than a taxpayer’s ‘income’ within the meaning of the Sixteenth Amendment,” he said.

Judge Elizabeth Copeland agreed with Gustafson’s opinion but also wrote a partial dissent of her own, insisting that Section 280E is a penalty and urging further analysis of whether it violates the Eighth Amendment.

“We agree with the dissent that there are constitutional issues and are evaluating an appeal,” said Matthew Carlson, an associate attorney at Wagner Kirkman Blaine Klomparens & Youmans LLP, the firm representing the company.

Judges Richard Morrison and Albert Lauber wrote separate concurring opinions in the case.

The IRS declined to comment.

The case is Northern California Small Business Assistants Inc. v. Commissioner, T.C., No. 26889-16, 10/23/19.

(Updated with comment from attorney. )

To contact the reporter on this story: Aysha Bagchi in Washington at

To contact the editors responsible for this story: Patrick Ambrosio at; Colleen Murphy at