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Tuesday, October 29, 2013

Leff & Hackney: Tax Planning for Marijuana Dealers

Iowa Law Review LogoBenjamin M. Leff (American), Tax Planning for Marijuana Dealers, 99 Iowa L. Rev. ___ (2014):

In recent years, many states have legalized marijuana while the federal government continues to consider all marijuana sales and use illegal. But marijuana industry insiders consider not federal criminal law but federal tax law to be the biggest impediment to the development of a legitimate marijuana industry. State-sanctioned marijuana sellers are required to pay federal income taxes pursuant to § 280E, a formerly largely symbolic provision that Congress enacted to punish drug dealers, but which now could potentially drive legitimate marijuana sellers underground.

This paper proposes a tax strategy that enables state-sanctioned marijuana sellers to avoid the impact of § 280E by qualifying as a tax-exempt organization. The IRS has already stated that a marijuana seller cannot be exempt under § 501(c)(3) because the so-called “public policy doctrine” does not permit a charity to have purposes that are contrary to law. This paper proposes that a state-sanctioned marijuana seller could qualify as tax-exempt under § 501(c)(4), since the public policy doctrine only applies to charities, and § 501(c)(4) organizations are not charities. The organization would have to be operated to improve the social and economic conditions of a neighborhood blighted by crime or poverty, by providing job training, employment opportunities, and improved business conditions for commercial development in the neighborhood, just like many existing community economic development corporations that run businesses.

This novel argument is more than just a clever strategy – a “tax loophole” so to speak – to avoid the impact of § 280E. Rather, IRS recognition of tax-exempt status for marijuana sellers could actually provide a mechanism to resolve the federalism issues raised by the conflict between state and federal marijuana laws. A federal policy that incentivizes marijuana sellers to be non-profit, neighborhood-based organizations whose primary purpose is improving the neighborhood in effect ties federal approval to local support. By following this policy, the IRS would promote state and local policy harmonization by permitting community-based nonprofits to sell marijuana, but only when local community groups favored it. This would surely be better for the IRS than its current role as a lightning rod of the conflict between state and federal policy objectives.

Philip T. Hackney (LSU), No 'Fagin' School of Pickpockets Allowed -- A Response to Professor Leff on Tax Planning for Marijuana Dealers, 99 Iowa L. Rev. Bull. ___ (2014):

Professor Benjamin Leff argues in a forthcoming article entitled Tax Planning for Marijuana Dealers that a tax-exempt social welfare organization described in § 501(c)(4) may sell medical marijuana without putting its exempt status in jeopardy. He argues that (1) the “public policy” doctrine applicable to charitable organizations under § 501(c)(3) does not apply to social welfare organizations, and (2) a social welfare organization may consider “community” law and ignore federal law in considering whether its activity meets the idea of social welfare. I argue that Leff is wrong and that the public policy doctrine applicable to charitable organizations applies to social welfare organizations equally. Tax-exempt organizations derive exempt status primarily by supplying significant public benefits. Violating federal, state or local law causes public harm; thus, any tax-exempt organization, including a social welfare organization, may not violate established public policy as a substantial purpose. Additionally, the “community” requirement for social welfare organizations is to ensure the organization is dedicated to a public purpose rather than a private one. Violating any law, including federal, is more likely to ensure an organization is operating for a private rather than public purpose. Contrary to Leff’s claim therefore, this article argues that a social welfare organization may not sell medical marijuana and maintain its exempt status.

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