The following are types of expenses that go into figuring the cost of goods sold. If you include an expense in the cost of goods sold, you cannot deduct it again as a business expense. The cost of goods sold is deducted from your gross receipts to figure your gross profit for the year. Some of your expenses may be included in figuring the cost of goods sold. If your business manufactures products or purchases them for resale, you generally must value inventory at the beginning and end of each tax year to determine your cost of goods sold unless you are a small business taxpayer (defined below). For a dispensary the line is a little more murky. It would include the cost of the seed, the labor to cultivate (including the owner’s salary if the owner was involved in the production), rent, etc. For cultivators, COGS is pretty straight forward. Since there is very little guidance by the IRS on what is COGS for cannabis, it has left it open for interpretation. This strategy was struck down by the Courts. Commissioner, was a case where the petitioner claimed they had an ancillary business, because they sold paraphernalia, and T-shirts, along side of cannabis. However, this strategy is wrongly applied in various Court cases. The Tax Court allowed certain expenses because of the fact that a portion of the business was federally legal. Commissioner, whereby CHAMPS ran an ancillary business along side of of the sale of cannabis.
The most famous cannabis case was Californians Helping Alleviate Medical Problems (CHAMPS) v. Tax Court, and Federal Appellate Court struck that argument down. Commissioner, where the petitioner’s argument was that since cannabis was legal in the state in which it operated in, then IRC §280E did not apply.
However cost of goods sold (COGS), is deductible for those in the state legal cannabis business. No deduction or credit shall be allowed for any amount paid or incurred during the taxable year in carrying on any trade or business if such trade or business (or the activities which comprise such trade or business) consists of trafficking in controlled substances (within the meaning of schedule I and II of the Controlled Substances Act) which is prohibited by Federal law or the law of any State in which such trade or business is conducted. In 1982, Congress passed IRC §280E was enacted which states: Because cannabis, and derivatives of cannabis, are classified as a Schedule I narcotic, as per the 1970 Controlled Substance Act, federally the production and sale of cannabis is illegal.
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