A summary of 280E litigation and their relevance for psychedelics businesses.
Why Cannabis Case Law Is the Starting Point for Psychedelics
Any business owner should pay attention to their books and maintain financial hygiene. This not only helps you understand your own business, but also keeps you prepared for compliance work like taxes. However, people running businesses under a state-regulated natural medicine model have one additional thing to think about: the impact of Section 280E of the tax code.
As is to be expected at this nascent stage, there is very little litigation or case law specifically for psychedelics. Instead, we have to look at the history of cases around cannabis.
There are key differences between the economics and business models of the cannabis and psychedelic sectors that make them different enough that cannabis precedents may not apply directly. Instead, we have to look at the underlying logic of those rulings to see how they might apply to the unique service-delivery models in the psychedelic space.
This presents clear complexities for financial and tax management, as psychedelics are increasingly becoming state-legal while remaining federally prohibited. This conflict is what triggers 280E, effectively taxing businesses on revenue rather than profit.
The Cases: A Chronological Summary
Below is a chronological summary of the major cases where 280E was at issue. Most of these are in the tax courts, but some have also been litigated in other jurisdictions.
Elsewhere we cover how 280E might apply to healing/service centers, facilitators, manufacturers, and cultivators by extensively analyzing individual court cases. This note is for people who want to go deeper and review the tax court cases that form the basis of our advice.
| Case name | Decision date & Court | What was the case about? | Potential impact for psychedelics businesses |
| CHAMP | Tax Court: 5/15/2007 | Seminal case in which the court determined that a single legal entity could have two separate trades with 280e applying just to one. | There may be ways to split the health/care services from the sale of the medicine and only have 280e apply to one. This case also set forward the precedent of splitting the cost between two trades on the basis of floor space and employee/time allotment, which is a strategy that many professionals suggest employing. |
| Olive, Martin | Tax Court: 8/2/2012 | Incidental services (yoga, games, massages, etc.) without a profit motive or revenue cannot be claimed to be a separate trade. | Giving away the service or the medicine alone does not prevent 280e from applying. |
| Canna Care | Tax Court: 10/22/2015 | Attempted to mirror the CHAMP defense, but failed because the court found their “services” were a legal fiction designed to mask a standard profit-seeking retail operation. Additionally, the sales of non-marijuana items were considered incidental, if there would be no sales “but for” the sale of marijuana. | If the sale of non-medicine items or services would not have a sustainable client base, if not for the sale of the medicine, then they may not be considered a distinct trade. |
| Olive, Martin Appeal | 9th Circuit, 7/9/2015 | During this appeal, the court affirmed that services (tea, yoga) are incidental if there is no profit motive or revenue generated. Additionally, the court denied the argument that 280E was never intended to apply to state-legal medical marijuana, and should thus be ignored. | Reaffirms the findings of the prior tax court. |
| Alterman, Susan | Tax Court, 6/13/2018 | Ruled that the sales of non-marijuana items is considered incidental and not a distinct trade if the revenue is statistically insignificant. | Not so relevant for healing centers, because the revenue from the therapy/service is substantial. |
| Alpenglow Botanicals Appeal | 10th Circuit Court, 7/3/2018 | Decided that the IRS has the authority to “investigate” if a company is trafficking drugs (and apply 280E) even if no criminal conviction exists. | The IRS can legally review natural medicine businesses for 280e compliance. |
| Patients Mutual | Tax Court, 11/29/2018 | Established that taxpayers cannot use Section 263A to capitalize expenses Cost of Goods Sold (COGS), if those costs are already disallowed by Section 280E. Additionally, to claim “producer” status for the purpose of gaining more exclusions under COGS, one must retain a title to the items during production by another entity. | This decision limits what healing/services centers can claim as their COGS. Also informs the kind of bookkeeping and recordkeeping cultivators and manufacturers need to do. |
| Patients Mutual Memorandum | Tax Court, 12/20/2018 | This memorandum clearly delineates how IRS penalties can be waived. In the case of Patients Mutual, the taxpayer put forward a reasonable argument, there were few precedent court decisions, and the tax payer made a good faith effort to assess the law. | One can propose novel modes of accounting as psychedelics are a frontier business. Even if courts rule against these strategies, the penalties could be waived if the arguments are based on good faith effort in understanding of the law. Good reason to hire credible accountants 🙂 |
| Alternative Health Care Advocates | Tax Court, 12/20/2018 | Here, the court decided that 280E can apply to a separate management entity. The context being that the management entity employed the same persons and only functioned to handle payroll, rent, and administration for a single dispensary. Therefore the legal distinction between the companies was seen as artificial. The court also ruled that activities like trimming and packaging are not substantial enough to grant “producer” status. | Just because you have two LLC’s does not mean you are in the clear. If the second entity looks like it was just created to avoid 280e, then both entities might get treated as one for tax purposes. Additionally, just grinding or preparing the medicine for use does not allow one to claim the more lenient producer status for COGS. |
| Feinberg v. Comm. | 10th Circuit, 2/26/2019 | Ruled that taxpayers cannot use the 5th Amendment to shift the burden to the IRS of proving whether the business sells Schedule I or II substances. Taxpayers must still prove their deductions do not fall under 280E themselves. | You need to maintain strong books/records to prove that 280e does not apply to parts of your operation as the burden to prove that is on you. |
| NCSBA | Tax Court, 10/23/2019 | The Tax Court ruled that Section 280E does not violate the Eighth Amendment’s Excessive Fines Clause. | 280E applies to you even if you run a loss. |
| Richmond Patients Group MOP | Tax Court, 5/4/2020 | Similar to Patients Mutual and Alternative Health Care Advocates, in order to claim “producer” status for greater COGS exclusions, one must retain title to the products if they are produced by a separate entity, and also trimming, packaging and maintenance of the product are not substantial enough to be defined as producing. | Further clarified what kind of bookkeeping and records cultivators and manufacturers need to maintain, as well as what COGS exclusions apply. |
| San Jose Wellness TCOP | Tax Court, 2/17/2021 | The court denied the taxpayer’s argument that 280E does not apply to depreciation because it is not “paid or incurred during the taxable year.” The court also decided that 280E applies to charitable contributions. Additionally, this case provides the example that penalties cannot be waived if the laws being litigated have already been clearly established. This would show that a good faith effort to understand the legal landscape has not been taken. | If a rule has been made clear already, arguing against it again will not be in “good faith.” Thus penalties will not be waived. This builds on Patients Mutual which permits penalties to be waived for unsettled matters. |
| Lord, William MOP | Tax Court, 3/1/2022 | In another attempt to include depreciation into COGS, the taxpayer argued that they are constitutionally entitled to depreciation under 263A because denial of the deduction would result in an impermissible tax on gross receipts, rather than gross income. This was not held by the court. | 280E still applies to everything outside of COGS, even if this removes profitability. |
| Patients Mutual (Harborside) | 9th Circuit, 4/22/2021 | The appeal argued that 280E liabilities unfairly tax gross receipts rather than “income,” rendering them unconstitutional under the 16th amendment. This challenge was denied because it had not been raised in the lower tax court. Then, Harborside attempted to argue that it could capitalize more costs within COGS than 471 strictly defines. They sought to challenge the narrow applicability of Section 471 by invoking the section’s exemption provisions, which allow for alternative accounting methods in “special industries.” This move was designed to bypass the restrictive “reseller” rules and absorb indirect business expenses into their inventory costs. | Healing/Service centers must follow the narrow “reseller” rules to determine what counts as COGS. |
| New Mexico Top Organics | Pending a decision. | ||
| Savage Ayla | Pending a decision. |
This article is for general informational purposes only and does not constitute professional accounting, tax, or legal advice. Tax laws, regulations, and accounting standards change frequently, and the application of rules can vary based on your organization’s specific facts and circumstances. Before acting on anything you read here, consult a qualified professional who can advise you based on your situation.
