Several states — including Colorado, Washington, Oregon, and Alaska — have, for now, successfully nullified the federal prohibition on the possession, sale, and production of marijuana. But that doesn’t mean the federal government is totally powerless in the matter.
As has been discussed before, the Federal Reserve and other federal regulators of the banking industry, have made sure that it is extremely difficult for legal marijuana businesses to do business with any financial institution. Marijuana business have thus been reduced to making payroll, paying construction contractors, and paying the heating bill, using cash only.
Meanwhile, thanks to the 16th Amendment and the federal income tax, the federal government can still enforce draconian tax rates against businesses and owners who engage in what the federal government regards as illegal activity.
Section 280E of the Internal Revenue Code states:
No deduction or credit shall be allowed for any amount paid or incurred during the taxable year in carrying on any trade or business if such trade or business (or the activities which comprise such trade or business) consists of trafficking in controlled substances (within the meaning of schedule I and II of the Controlled Substances Act) which is prohibited by Federal law or the law of any State in which such trade or business is conducted.
Not surprisingly, marijuana businesses have argued that the law was not intended to apply to businesses that are legal under state law. The IRS, disagrees, however, and will likely continue to disallow any deductions by businesses with impunity, meaning “many marijuana business owners end up paying effective tax rates of anywhere from 40% to 70%,” according to Fortune.
So, in Colorado, for example, while the state constitution now mandates that marijuana be legal (to an extent), that certainly doesn’t stop the IRS from imposing taxation at a prohibitive level.
Indeed, for the IRS and the federal government in general, the Drug War is just the gift that keeps on giving since these high tax rates can be traced back to a 1980s-era anti-drug law. The Daily Beast explains:
Congress passed [Section 280E] in 1982 so that businesses who are “trafficking in controlled substances” that are prohibited by federal law may not utilize many tax deductions and credits available to other businesses, like deducting rent and employee-related expenses. That means a marijuana business owner can pay an effective tax rate as high as 70 percent, as opposed to the more typical 30 percent rate...
“280E was more a political statement than a model of tax policy,” Pat Oglesby, a North Carolina lawyer who has worked on tax policy for Congress, told The Daily Beast. He said the war on drugs was “raging” and no one bothered to question any laws that made them look tough on drugs.
“The 280E provision was so politically bulletproof that no committee bothered to even hold hearings,” Oglesby said. Drug laws were accepted as quickly as one might accept free drugs.
Naturally, this will only have the effect of further encouraging marijuana business to move further underground, thus causing the local black market to grow, including the illegal — and often truly violent — activities that tend to accompany black markets. In other words, while states have attempted to lessen the social burdens of black markets within their own boundaries, the feds have jumped in to help black markets thrive, yet again.
