Investors love the new Opportunity Zone (OZ) program, which allows for the diversion of capital gains into developing communities in exchange for significant tax breaks. But confusion about project qualification parameters lingers. For example: Can you invest in cannabis-related Opportunity Zone projects? Are they even allowed? It’s not an easy question to answer since state and federal law remain at odds.
Below, we review cannabis tax legalities as it relates to the Opportunity Zone program.
State Cannabis Legalization v. Federal Prohibition: Tax Implications
The chasm between state legalization and the federal ban is creating a legal quagmire for cannabis companies, but government agencies, like the IRS, have provided minimal guidance thus far.
Federally, cannabis is still categorized as an illegal narcotic under the Controlled Substances Act. However, at the time of writing, nearly half of the country has legalized marijuana for medical or recreational use.
To complicate matters, Congress passed the Hemp Farming Act in 2018, which removed Hemp — a cannabis-derived product —from the list of Schedule 1 drugs, effectively legalizing it. The only difference between hemp and cannabis is the amount of THC. The former contains less than 0.3 percent.
Despite legalization, the IRS has remained relatively quiet on cannabis tax matters. “Green” states, however, have clearly outlined tax obligations for cannabis businesses. (link)
Tax Credit and Deduction Exemptions for Cannabis Companies
Section 280E of the tax code presents another frustrating hurdle for cannabis companies. It prohibits businesses that deal in controlled substances from claiming credits and deductions otherwise available to other companies.
Alpenglow Botanicals, a Colorado cannabis company, took the issue to court. It sued the Internal Revenue Service for refusing to let it claim certain deductions. The Supreme Court, however, rejected the case, so the jury is still out on this issue. As such, it’s best to consult with a cannabis tax lawyer who can assess your specific situation and provide the best guidance based on jurisdiction and business model.
Can Cannabis Businesses Use Opportunity Zone Funds?
Can Opportunity Zone funds support cannabis companies? Authorities have yet to publish formal guidance on the issue, but most cannabis tax attorneys advise against it because an OZ program stipulation prohibits the development of “sin businesses” (massage parlors, golf courses, gambling tracks, liquor stores, etc.). Moreover, treasury secretary Steve Mnuchin once said that Opportunity Zone funds probably shouldn’t be used “to fund marijuana business, even those that are legal at the state level.”
The operative concept here, however, is “direct.” To wit, investing in a building that leases space to a cannabis business is not the same as providing startup capital to a grow-op. Again, speak with a lawyer to get a 360-view of your specific options.
Increased Likelihood of Audit?
Warning: If you do invest in a cannabis-business, whether through the Opportunity Zone umbrella or privately, the likelihood of an audit increases.
Our Tax Lawyers Work With Cannabis Companies
We believe in the burgeoning cannabis market. It’s a great way to fill state revenue coffers. We work with individuals and businesses across the country and overseas. Get in touch today.
We look forward to speaking.