There are some important movements afoot to bring cannabis into the mainstream and make the cannabis businesses easier to operate. First, the Department of Health and Human Service (HHS) has recommended to the Drug Enforcement Administration (DEA) that cannabis be rescheduled from Schedule I to Schedule III of the Controlled Substances Act (CSA). At the same time, 23 attorneys general last week urged Congress to pass the Secure and Fairer Enforcement Regulation Banking Act (SAFER) of 2023. The implications of both of these actions would result in profound changes to the industry.
Schedule I drugs are those that pose a danger to the public, are subject to abuse, and have no proven medical benefit (e.g. heroin and LSD). Whereas Schedule III drugs include products such as Tylenol with codeine, testosterone supplements – drugs with a low risk of abuse and dependence.
Rescheduling cannabis to a Schedule III drug under the CSA would not make cannabis legal federally. However, it would remove significant tax burdens currently imposed on cannabis businesses. For example, with cannabis listed as a Schedule I drug, cannabis businesses are subject to IRS code 280E.
Section 280E prohibits businesses selling Schedule I or II substances from taking ordinary business deductions. Originally intended to prevent drug traffickers from claiming tax deductions, the provision creates significant burdens on cannabis operations because they are unable to take standard deductions for common business expenses such as payroll, rent or marketing.
This prohibition results in many cannabis businesses using creative (possibly illegal) solutions in a business that largely runs on a cash basis (more on that below). Removing this 280E barrier would enable the legalized cannabis business to operate more efficiently by opening the opportunity to take deductions for things such as payroll and marketing expenses which will enable them to more effectively compete with illegal cannabis trade – ideally reducing the size of that market.
Further, moving cannabis from Schedule I to Schedule III would open the door for more research into the effects of cannabis use, which is something worthwhile given the large number of states that have not legalized cannabis use in some form. Such research could pave the way to the creation of FDA approved cannabis-based or cannabis-derived medications.
What rescheduling would not do, is make possession legal. Thus, the businesses engaged in the cultivation and sale of cannabis would still be violating Federal law. Because it would remain illegal, rescheduling will not solve the problems with banking and financial transactions that the industry currently faces.
That is why the second activity taking place at the Federal level is so important and why Arizona Attorney General Kris Mayes joined 22 other attorneys general last week to urge Congress to pass the SAFER Banking Act of 2023. This act, which has been stalled in Congress in some form or other for several years, seeks to remove banking restrictions that limit cannabis businesses from accessing regulated financial services. Because cannabis is still considered an
illegal substance, banking institutions that deal with cannabis businesses are currently subject to criminal and civil liability. The SAFER Banking Act seeks to eliminate those risks.
Elimination of the barriers to banking would foster economic growth and enable states and localities to better oversee tax obligations and would reduce the public safety risks associated with high-value cash-based businesses operating in communities.
The SAFER Banking Act would create a safe harbor for financial institutions and open the doors for them to deal with licensed cannabis businesses. It would also be a boon for the banks that could see millions of dollars in deposits and transactions.
It is an interesting time to see the changes in the cannabis business with many policy makers finally coming to terms with the reality that cannabis is here and is not likely going away. So, many have decided it is time to align the laws with reality.
J. Christopher Gooch is a business litigation attorney with Fennemore and heads the firm’s real estate litigation practice. He has significant experience representing clients in the medical and recreational marijuana industry including investors and operators. His clients include a broad spectrum of entities, ranging from Fortune 500 corporations to entrepreneurs.
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