280E Tax Code and Cannabis: How Dispensaries Are Losing 70% of Their Profits to the IRS

What Is Section 280E?

IRS Section 280E is a provision in the U.S. Internal Revenue Code that prohibits businesses that traffic in controlled substances from deducting ordinary and necessary business expenses from their gross income for federal tax purposes.

Because cannabis remains classified as a Schedule I substance under federal law (with limited Schedule III exceptions as of April 2026), most cannabis businesses—including dispensaries—are subject to this punishing provision.

The Financial Impact

Unlike every other legal business in America, cannabis dispensaries cannot deduct:

• Employee wages and salaries
• Rent and utilities
• Marketing and advertising costs
• Administrative and office expenses
• Insurance premiums

The result? Dispensaries are effectively taxed on their gross income rather than their net profit, leading to effective federal tax rates that can reach 70% to 80% or higher.

The COGS Exception

The only deduction allowed under Section 280E is the Cost of Goods Sold (COGS). For retailers, this generally includes the invoice price of inventory, freight, and certain transportation costs. Precision in COGS accounting is critical—misclassification can trigger audits and significant penalties.

Strategies Operators Are Using

• Entity structuring: Some operators separate their cannabis and non-cannabis activities into distinct legal entities to maximize deductions on the non-cannabis side.
• COGS optimization: Aggressive but legally defensible allocation of costs to COGS categories.
• State decoupling: Some states have decoupled from 280E, allowing standard deductions on state returns.

The Rescheduling Lifeline

The partial rescheduling of cannabis to Schedule III in April 2026 has eliminated 280E for state-licensed medical marijuana entities. If the broader rescheduling hearing (June-July 2026) results in a comprehensive reclassification, the entire industry could see this burden lifted.