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The Feds Won't Legitimize Pot, But They'll Still Tax The Hell Out Of It

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A marijuana bud is picked out for a patient at a medical marijuana dispensary. (AP Photo/Ed Andrieski) | ASSOCIATED PRESS

Nearly half of U.S. states have legalized marijuana in some form, whether medical or recreational. But marijuana remains illegal under federal law, and as a result, the legitimate businesses selling the drug are subject to sky-high tax rates.

Dispensaries can't deduct traditional business expenses like advertising costs, employee payroll, rent and health insurance from their combined federal and state taxes. That means dispensary owners around the U.S. often face effective tax rates of 50 to 60 percent -- and in some states, those rates soar to 80 percent or higher, according to members of the pot industry who spoke to The Huffington Post.

In other words, the federal government rakes in tax revenue from pot shops while prohibiting them from accessing the same financial benefits afforded to non-cannabis businesses.

"We now have thousands of basically small- and medium-sized businesses across the country in over 20 states that are perfectly legal, who are being discriminated against in terms of the tax system because they can’t deduct legitimate business expenses," Rep. Earl Blumenauer (D-Ore.) told The Huffington Post. "Their effective tax rate is two, maybe three times higher depending on where they are in their business cycle." Blumenauer introduced the Small Business Tax Equity Act (HR 2240) in 2013, which would allow marijuana-related businesses to make traditional tax deductions.

Federal tax code 280E, an antiquated Internal Revenue Service rule enacted in the 1980s under President Ronald Reagan's "War on Drugs" campaign, explicitly prohibits any deduction from any business that "consists of trafficking in controlled substances." Marijuana is currently listed alongside heroin and LSD as a Schedule I narcotic under the Controlled Substances Act.

"280E is left over from an earlier era, and it’s not fair," Blumenauer said. "It's time to treat marijuana like a grown-up, legitimate business, and have people play by the rules and be fair to them.”

In 2013, Blumenauer forged an unlikely alliance with conservative anti-tax crusader Grover Norquist when the Oregon lawmaker introduced his pot business tax reform bill.

"There is no reason why the tax code should deny ordinary and necessary business expenses to legitimate businesses established under state law," Norquist wrote in a letter to Congress urging the bill's passage. "The result is an arbitrary and punitive situation where legal employers face very high average effective tax rates that Congress never sought to impose on businesses."

In an attempt to better serve the marijuana businesses in Colorado, which began permitting the recreational sale of pot last month, state lawmakers approved a measure that allows dispensaries to claim some state income tax deductions, especially related to the growing of cannabis. But Colorado dispensary owners told HuffPost that their effective tax rates are still around 50 to 60 percent because anything related to the specific sale of the plant can't be deducted.

"All we want is to be treated like other businesses," said Mike Elliott, executive director for the Medical Marijuana Industry Group which represents marijuana businesses in Colorado. "The federal government doesn’t recognize our businesses as being legitimate, but they do demand our taxes. It’s really unfair treatment."

Elliott added marijuana business owners have no problem paying taxes, a widespread mentality among dispensary owners eager to convey the image that they are functioning as legitimate, law-abiding businesses. "We are on board with paying our taxes," Elliott said. "But right now these unusually high rates are just a means of punishing the businesses, a 'head in the sand' approach."

Dispensary owners are hopeful that changes in the federal tax code are coming. They point to recent statements from President Barack Obama, who said that he thinks marijuana is no more dangerous than alcohol, and Attorney General Eric Holder, who signaled that a change in federal banking access for marijuana businesses may be on the way.

“Allowing small, legal marijuana businesses to have the same tax treatment as any other small business is critical to ensuring the regulated industry can wipe out the black market," said Rep. Jared Polis (D-Colo.), who has sponsored a number of measures advocating tax and banking rights for marijuana businesses.

Not everyone is on board with offering legal marijuana businesses the same treatment when it comes to taxes. "We should give fewer -- not more -- incentives, to people cashing in on addiction. This is about creating the next big tobacco, and we want to now give them tax breaks?" said Kevin Sabet, a former senior adviser at the White House Office of National Drug Control Policy and founder of Smart Approaches to Marijuana.

As these marijuana businesses continue to pay exorbitant sums in taxes to the state and federal government, many dispensary owners say they're counting the days until the IRS decides to audit them. California's Harborside Health Center, widely considered the world's largest marijuana dispensary, lost a battle against the IRS in 2011 when it tried to deduct standard business expenses and was ordered to pay millions in back taxes.

"We haven’t gone through an audit yet," said Tim Cullen, co-owner of Denver's Evergreen Apothecary. "Of course we pay our taxes, but it just feels like it’s a matter of when, and not if, that audit occurs."

Since Colorado's recreational pot shops opened on Jan. 1, dispensaries have generated a tremendous amount of revenue for both the state and federal governments. In the first week alone, less than 40 dispensaries around the state reportedly took in more than $5 million in sales revenue, with approximately $1.2 million of that going to state coffers alone -- and those figures are from just a fraction of the more than 500 total medical marijuana shops that are eligible to apply for retail licenses in the state.

More than one dispensary owner, who requested anonymity when speaking about specific financial issues, told HuffPost that they estimated by the end of the year, they'll be paying more than $1 million in sales tax to the federal government. And for some businesses, that tax is in cash.

Since most banks refuse to work with marijuana businesses out of fear that they could be implicated as money launderers if they offer traditional banking services to the pot businesses, many owners conduct all of their transactions in cash. Beyond the burden of managing taxes and employee payroll, cash-only businesses can put retailers' safety at risk. NBC News recently detailed several heists that have occurred at Colorado dispensaries.

Rep. Ed Perlmutter (D-Colo.), an advocate for mandatory banking for marijuana businesses, said he's hopeful the recent remarks from the president and attorney general signal that at least some change is coming. He added that when it comes to these businesses, safety should be their top concern.

"The crime potential for an all-cash businesses, whether that’s robbery, burglary or assault -- a violent crime -- or tax evasion, fraud and skimming -- a white collar crime -- is pretty substantial," he said. “At the heart of the banking and tax issue is we want these businesses to be safe."

More than a dozen states are expected to legalize marijuana in the the coming years. One recent study has projected a $10 billion legal marijuana industry nationwide by 2018.

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