The rule that makes cannabis accounting a different discipline, not just a harder one.
Section 280E of the Internal Revenue Code disallows ordinary business deductions for businesses trafficking in controlled substances under federal law. For a cannabis operator, that produces a tax outcome that feels wrong the first time you see it, and it is worth understanding before it shows up on a return.
What it means in practice
Most businesses deduct rent, payroll, marketing, and professional fees. Under 280E, a plant-touching business generally cannot deduct those ordinary operating expenses for federal purposes. What survives is cost of goods sold, which is why COGS gets so much attention in this industry.
Why the effective rate looks punishing
Because tax is calculated on gross profit rather than net profit, an operator can owe substantial federal tax in a year they did not make money in any ordinary sense. This is the single biggest reason cannabis businesses run into cash trouble while appearing to perform.
Where careful accounting earns its keep
- Rigorous, defensible cost accounting that properly captures inventoriable costs
- Clean separation of entities and activities where the structure supports it
- Documentation good enough to withstand examination, prepared in advance
- Tax provisioning built into cash planning rather than discovered at filing
Application depends on your license type, your structure, your state, and current guidance, and this area changes. Use this as background for a conversation with your tax professional, not as a position to take on a return.
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