Document Type

Article

Publication Date

February 2013

Abstract

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.

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