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Limited tax breaks for pot sellers

By Kay Bell ·
Tuesday, February 25, 2014
Posted: 2 pm ET

It's no secret that the IRS taxes illegal income. We all remember that it was Uncle Sam's tax investigators who proved invaluable in putting Al Capone in jail for not paying taxes on his ill-gotten gains.

Scarface's alleged crimes -- remember, he was accused of a lot, but only convicted on tax charges -- happened during the Prohibition Era.

Nowadays, many legitimate business operators are having their own problems with the IRS over another mood-altering substance that is illegal across much of the country.

I'm talking about marijuana sellers.

Legal in states, not US

Twenty states and the District of Columbia have medical marijuana programs, according to the National Conference of State Legislatures.

Two states -- Washington and Colorado -- also have approved sales of small amounts of marijuana for recreational purposes.

Washington's legal pot sales won't begin until this summer.

Colorado, however, has been in the weed business since Jan. 1, and sellers there are discovering they have to walk a fine line in order to maximize their business tax breaks.

Small businesses, which represent most of the marijuana operations in Colorado, get to write off a variety of costs at tax time.

The Internal Revenue Code, however, specifically prohibits these claims when they are in connection with controlled substances listed under the federal Controlled Substances Act. Marijuana is on that list.

This effectively means that marijuana sellers must pay federal tax on their businesses' gross income rather than net income because they cannot deduct the same types of costs that provide tax savings to other businesses selling universally legal products.

Anecdotal media reports have pot sellers complaining that instead of the usual 35 percent corporate tax rate, without the deductions they expect to pay as much as 60 percent in taxes.

So pot sellers are getting creative. In a recent story about a Denver marijuana dispensary, Bloomberg Businessweek reports:

The effect of the law can be seen in the design of many dispensaries. Typically, the stores have some form of anteroom, where customers sign in and wait to be accompanied into a separate sales room. The waiting rooms can be spacious, with chairs, coffee and T-shirts on display. But the sales rooms, where the actual pot and infused products are traded, are often tiny. That's because the rent for the waiting is deductible, while rent on the sales space is not.

Federal legislation pending

Cannabis sellers are working to get the federal tax law changed to keep up with the more accepting national attitude toward marijuana use and sales.

Rep. Earl Blumenauer, D-Ore., last summer introduced the Small Business Tax Equity Act of 2013. It would allow businesses that legally sell marijuana in their states to claim all federal business-related tax credits or deductions for their operations.

H.R. 2240 has 12 co-sponsors -- 10 Democrats and two Republicans. But the tax-writing Ways and Means Committee hasn't even held a hearing on the bill, and no action on Blumenauer's measure is likely.

Still, it's a start. As more states look to legalize or at least decriminalize weed, expect the U.S. tax code to eventually catch up.

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Veteran contributing editor Kay Bell is the author of the book "The Truth About Paying Fewer Taxes" and co-author of the e-book "Future Millionaires' Guidebook."

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