Cannabis Deduction Compliance
In today’s post, we provide a detailed breakdown of allowable and disallowed expenses for cannabis businesses under IRS §280E and §471-11, with a focus on how cultivators, processors, and dispensaries are affected differently. The following sections clarify the types of direct and indirect costs that each type of cannabis business can include in Cost of Goods Sold (COGS) and outlines the unique restrictions placed on dispensaries.
§280E and §471-11
Overview of §280E
Purpose: §280E prevents businesses dealing in Schedule 1 controlled substances from deducting most business expenses, allowing deductions only for the Cost of Goods Sold (COGS).
Impact: Cannabis businesses cannot deduct typical business expenses like rent, wages, and utilities, except for those that can qualify as part of COGS.
Overview of §471-11
Purpose: §471-11 provides a detailed framework for calculating COGS, allowing businesses involved in production (such as cultivators and processors) to include both direct and certain indirect costs in COGS.
Impact: Allows cannabis producers to offset more costs by including some indirect production expenses in COGS, which broadens deductions available beyond §280E.
Cultivators: Allowable and Disallowed Costs in COGS
Allowable Direct Costs for Cultivators under §280E and §471-11
Labor Costs: Wages and benefits for employees involved in planting, watering, and harvesting cannabis.
Materials and Supplies: Seeds, nutrients, fertilizers, soil, and other growing media.
Facility Expenses for Production Areas: Depreciation, rent, and utilities allocated specifically to cultivation areas.
Equipment Costs: Depreciation, maintenance, and repairs on equipment used directly for growing.
Security for Production Areas: Costs related to security in designated cultivation areas.
Disallowed Costs under §280E
Administrative and Office Expenses: HR, executive staff wages, and general office supplies.
Marketing and Advertising Costs: Costs related to promotions and branding.
Sales and Distribution Costs: Any expenses related to packaging and sales staff wages.
Processors: Allowable and Disallowed Costs in COGS
Allowable Direct Costs for Processors under §280E and §471-11
Labor Costs: Wages for processing staff involved in extraction and refinement.
Materials and Supplies: Raw cannabis, solvents, and other necessary processing chemicals.
Facility Expenses for Production Areas: Rent and utilities directly allocated to processing zones.
Equipment Costs: Depreciation and repairs for equipment used in processing.
Security for Processing Areas: Security costs for designated production areas.
Disallowed Costs under §280E
Administrative and Office Expenses: General office costs, executive wages, and HR expenses.
Marketing and Advertising Costs: Any promotional expenses are non-deductible.
Sales and Distribution Costs: Expenses related to logistics and sales staff.
Non-Processing Facility Expenses: Rent and utilities for non-production spaces are disallowed.
General Security Costs: Security expenses not directly tied to processing areas.
Dispensaries: Allowable and Disallowed Costs in COGS
Allowable Costs in COGS for Dispensaries under §280E
Inventory Purchase Costs: The primary allowable COGS expense is the purchase cost of cannabis products from suppliers.
Freight and Shipping Fees: Reasonable shipping fees to transport goods from suppliers.
Storage Costs: Costs for securing inventory storage (e.g., refrigeration).
Insurance on Inventory: Inventory-specific insurance costs related to product protection.
Packaging for Sale: Packaging expenses required to prepare products for sale.
Inventory Spoilage and Shrinkage: Documented costs related to inventory loss due to spoilage.
Disallowed Costs under §280E for Dispensaries
Retail Space Rent and Utilities: Non-deductible general operating costs.
Sales and Marketing Costs: All advertising, promotions, and sales staff wages.
General Administrative Expenses: Office supplies, executive salaries, and general security.
Non-Inventory Security Costs: Security costs unrelated to inventory protection (e.g., general facility security).
Niche Accounting understands the unique challenges and opportunities in the cannabis industry. With expertise in navigating IRS codes, maintaining meticulous financial records, and offering tailored accounting solutions, Niche Accounting provides the clarity and peace of mind every business owner deserves. Partnering with Niche Accounting means gaining a strategic ally invested in your business’s success. Together, we can streamline your finances and strengthen your path to growth—allowing you to focus on growing your business, not managing the books.
