Tax professionals who give advice to marijuana businesses in the states where marijuana is legal should not have to suffer adverse consequences because the businesses are illegal under federal law, recommends a new report from a key advisory council for the Internal Revenue Service.
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“Marijuana businesses that are now legal in some states but still illegal under federal law need ethical and competent professional tax advice,” said the report. “Tax professionals who give that advice need assurance that they will not be adversely affected by the fact that the business is illegal under federal law.”
The IRSAC report pointed out that in January of this year, the state of Colorado legalized recreational marijuana businesses. By the end of March, there were 190 recreational marijuana businesses in Colorado, which are expected to gross $1 billion in sales this year. Marijuana businesses are required to file federal income tax returns but are not allowed to deduct all of their expenses under section 280E of the Tax Code, which prohibits deductions or credits for any amount paid or incurred in connection with the trafficking of controlled substances that are prohibited under federal law.
However, IRSAC pointed out that the application of section 280E is not simple and, for example, is not intended to disallow an adjustment to gross receipts with respect to cost of goods sold. If a taxpayer is engaged in other trades or businesses in addition to selling controlled substances, section 280E does not disallow the deduction of expenses of those other trades or businesses, the report noted.
“To complicate matters further, the new marijuana businesses, legal under state law, are cash businesses because banks will not do business with them for fear of violating federal trafficking and federal money laundering regulations,” said the report. “Federal money laundering convictions can mean decades in prison. With over 20 states allowing medical marijuana and now states beginning to legalize recreational marijuana, this industry needs qualified, ethical professionals to help them fulfill their income tax obligations. But IRSAC members have heard concerns from tax professionals in Colorado as to whether their federal licenses are at risk or their ethics are in question if they serve the marijuana industry. “IRSAC members believe that as a matter of substantive tax law either section 280E or the controlled substance schedules incorporated by reference into section 280E (or both) need clarification in light of these state law developments,” said the report. “Regardless of any such substantive changes, however, tax professionals need reassurance regarding their own roles in giving tax advice to and preparing tax returns for such businesses.”
Tax Preparer Regulation
On the subject of tax preparer regulation, the report noted that federal courts ruled in 2013 in the case of Loving v. IRS that the IRS does not have the statutory authority under law to impose mandatory testing and continuing education of tax preparers. After losing its appeals in the case earlier this year, the IRS set up a voluntary testing and education program known as the Annual Filing Season program. The IRS also lost a more recent case, Ridgeley v. Lew, which relied on the Loving decision. The Ridgeley case involved a CPA who entered into a contingent fee arrangement with a client to prepare ordinary refund claims. The IRS objected to the arrangement under Circular 230 rules, but the court sided with the CPA.
In the absence of statutory authority to regulate all tax return preparers, IRSAC said it is concerned that we will return to a tax preparation environment where, as a report by the Government Accountability Office found, the tax returns prepared by professional preparers have a higher estimated percent of errors than self-prepared returns, and the IRS will be severely limited in its ability to prevent unethical and incompetent preparers from taking advantage of taxpayers.
“We believe it imperative that appropriate tax return preparer testing and education be required before an individual can prepare an income tax return or claim for refund and that all such preparers, whether or not they are considered representatives,’ should be subject to Treasury Circular 230,” said the report. “Accordingly, we strongly believe the IRS should be granted the explicit statutory authority to regulate tax return preparers.”
Based on its findings and discussions, IRSAC also made a number of other recommendations to the IRS on a broad range of issues and concerns, including IRS funding, along with other topics identified by subgroups covering the Office of Professional Responsibility and the IRS’s Large Business and International, Small Business/Self-Employed, and Wage and Investment operating divisions.
IRSAC is an advisory group for the entire IRS. Its main purpose is to provide an organized public forum of tax administration issues for the IRS commissioner, senior IRS executives and representatives of the public to discuss relevant tax issues.
“We appreciate the hard work that these dedicated, civic-minded volunteers bring to tax administration,” said IRS commissioner John Koskinen in a statement. “The members provide both practical and creative advice, providing an important perspective for the IRS as we look for ways to improve our operations. We will study their recommendations closely.”
IRSAC is administered by the National Public Liaison Office and draws its members from the tax professional community and members of academia.
