Colorado cannabis businesses hope reclassification of drug will mean they pay fewer taxes

Kevin J. Beaty/Denverite
Good Chemistry Nurseries’ grow facility in Denver’s Northeast Park Hill neighborhood. Dec. 20, 2022.

With U.S. officials considering loosening restrictions on marijuana companies, Colorado cannabis companies are looking forward to getting relief from the taxman.

The Justice Department recommended marijuana be reclassified from its current status as a Schedule 1 drug, which are those “with no currently accepted medical use and a high potential for abuse,” according to the Drug Enforcement Agency. They include drugs like heroin and LSD. The proposal to move marijuana to a Schedule 3 drug would put it in the company of substances including Tylenol with codeine and testosterone. Marijuana possession and its sale would still be illegal at the federal level.

The big near-term impact of the proposed change for the state’s marijuana businesses could be much lower federal income tax bills. That’s because Section 280E of the Internal Revenue Code prohibits cannabis companies from taking deductions and credits against their expenses, leading to higher tax bills, according to Joe Hodas, the president of Wana Brands, an edible producer.

“Since the start of the legalized cannabis industry, all cannabis businesses that … are deriving money from the sale of cannabis, whether that's cultivation, processing, and products dispensaries, they cannot deduct taxes the way a normal business can,” Hodas said. “For those who have expenses that are directly related to the sale or the development of cannabis related products, they often face effective tax rates of 40 to 60 percent as opposed to most businesses that get to deduct quite a bit of business expenses from their taxes.”

The high tax bills make it harder to invest money in everything from employee benefits to opening new locations, said Liz Zukowski, director of public affairs at Native Roots Cannabis Company.

“A lot of people have this perception that cannabis businesses are just flush with cash and we have the opportunity to reinvest that money back into our companies. But when we really look at the amount being taxed, we’re operating on razor thin margins right now,” Zukowski said.

Native Roots estimates that a cannabis business making $1 million in revenue will owe about $125,000 in income tax under the current regime. Doing away with Section 280E would bring that tax bill down to $45,000.

The move to reclassify marijuana is a significant step by the federal government to bring its approach to the drug more in line with the 24 states where it is legal to use recreationally. But Colorado’s cannabis operators say it doesn’t go far enough. Many of them say the biggest obstacle marijuana businesses face is that they can’t access the banking system as long as marijuana is illegal at the federal level. U.S. lawmakers have for years been working on legislation that would allow financial institutions to do business with cannabis companies. The U.S. House has passed a similar bill in the past, but the most recent version of the legislation, called the SAFER Banking Act, is stalled in the Senate.

“SAFER Banking is always on the top of our minds,” Zukowski said. “It’s kind of a parallel path with rescheduling.  We want both rescheduling, ultimately descheduling, and SAFER Banking to go through. That opens up those traditional loans.”

Wana Brands’ Hodas said the banking legislation is a harder lift than rescheduling.

“There’s a lot of energy for it …. But I also know the SAFER Banking legislation is tied to so much politics and so many other aspects,” he said.