IRS targets medical marijuana businesses

In targeting the medical marijuana industry, the IRS is pursuing action that could send shockwaves through the medical marijuana industry — or even destroy it completely.

The IRS is thought to have begun audits on at least 12 medical marijuana dispensaries in California under the determination that past business deductions are invalid because of a clause in the federal tax code prohibiting any business that traffics in Schedule I or II drugs from making business deductions on their tax returns. The move could bankrupt every dispensary that it targets. The first dispensary to receive a final audit decision from the IRS is the Marin Alliance for Medical Marijuana (MAMM) in Fairfax, Calif.

Lynette Shaw, founder and owner of MAMM, is hoping to strike back before the IRS can deliver any more “final determinations” to other dispensaries currently being audited. Shaw intends to file an appeal in U.S. Tax Court within the month. There is actually a precedent for just such a case, when in 2007, a San Francisco dispensary primarily catering to terminal AIDS patients got its payment cut down to just over 1 percent of what the IRS originally said it owed in back taxes.

Shaw, however, seems to almost hope that a tax judge rules against her. A successful appeal of such a ruling would guarantee that neither MAMM nor any other dispensary in California or any other state would have to worry about future IRS audits. The next step would be the Ninth Circuit Court of Appeals, and Shaw is prepared to take the case to the Supreme Court if necessary.

Shaw says she hopes to do more than just override the tax code. She calls the IRS applying regulations meant for illicit drugs to something considered medication by state governments “an abrogation of states’ rights.” But she also intends to challenge the very classification of marijuana that has allowed the IRS to go after MAMM and other dispensaries.

“The Constitution says that all American laws shall be based upon a rational basis,” she says. “I’ve got a truckload of evidence to argue that this doesn’t pass the muster of rational basis.”

Marijuana joins heroin and ecstasy, among others, as a Schedule I drug on the Drug Enforcement Agency’s list of drug classifications. Cocaine, in contrast, is classified less harshly as a Schedule II drug. Shaw hopes that marijuana will be reclassified as Schedule III, next to ketamine and steroids, or even IV, like a slew of prescription drugs. The tax deduction disqualification applies only to Schedule I and II drugs.

Indeed, the federal criteria for Schedule I drugs seems not to describe marijuana on any count. The U.S. Code reads:

(A) The drug or other substance has a high potential for abuse.

(B) The drug or other substance has no currently accepted medical use in treatment in the United States.

(C) There is a lack of accepted safety for use of the drug or other substance under medical supervision.

Drugs are supposed to meet all three criteria before being classified as Schedule I, and yet marijuana does have an accepted medical use in 15 states, plus Washington, D.C., and there is no evidence whatsoever that marijuana use, medical or otherwise, poses a safety risk, except for the threat of certain types of cancer that marijuana shares with tobacco.

Lynette Shaw hopes she can get a federal court to agree with that assessment; if a tax judge rules against her and no appellate court will see things her way, she and most everyone else in her situation will be out of business. It may prove quite a challenge, because drug scheduling affects more than just tax allowances; the potential impact of rescheduling on mandatory minimum sentences alone might keep judges from wanting to open that can of worms. But Shaw insists that she’s not asking for a lot. “This is a very conservative action,” she says. “We’re not trying to end the drug war. We just want reclassification.”

In a meeting last week with medical marijuana supporters, Colorado U.S. Congressman from Boulder Jared Polis said he was aware of the IRS rule and was committed to working through the Congress to have the rules changed so that marijuana businesses that are in compliance with applicable state laws are treated just like other legally operating businesses by the IRS. He warned that such changes could take time as a majority of states still do not recognize the medical uses of marijuana.

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