Cannabis Industry Qualifies For Payroll Tax Credits
As a reaction to the COVID-19 pandemic, Congress enacted several economic relief measures. This article explores whether cannabis industry businesses are eligible for any tax credits or deferrals provided for under the recent COVID-19 relief legislation. Our conclusion is that they are eligible for the following reasons:
1. IRC § 280E’s prohibition on deductions and credits is limited to the income tax provisions of the Internal Revenue Code;
2. The credits are implemented by the COVID-19 relief legislation, not the Internal Revenue Code;
3. The deferral provisions are neither deductions nor credits, and
4. Denying them to cannabis businesses would be against Congress’ intent to provide direct payroll tax relief to all employers.
Summary of the Credits
On March 18, 2020 the Families First Coronavirus Response Act (“FFCRA”) was enacted. Shortly thereafter, on March 27, 2020, the CARES Act was enacted. The combination of both acts created the following refundable payroll tax credits:
· The Credit for Paid Sick Leave
· The Credit for Paid Family Leave
· The Employee Retention Credit
These new Acts provide for a refundable credit against certain employment taxes including FICA, Medicare and deposits of employee withholding. Income tax credits are not provided for under the new laws.
Under the FFCRA, payroll tax credits are provided for paid sick leave and paid family leave. Employers with fewer than 500 employees are required to provide paid sick leave and paid family leave. An employer may receive a refundable payroll tax credit for wages paid to employees on sick leave. The credit applies to wages paid between April 1, 2020 through December 31, 2020. The FFCRA provides that an employee is entitled to be paid 100% of his or her normal rate of pay up to $511 per day for ten days. In order to qualify, he or she must be unable to work because of a COVID-19 related government order; a self-quarantine; or seeking a diagnosis. If the employee is caring for a person under quarantine or caring for a child if their school or daycare is closed in connection with COVID-19, then they are entitled to two-thirds of their normal rate of pay up to $200 per day for ten days. The credit is allowed against taxes imposed by IRC §§ 3111(a) or 3221(a).
Also, under the FFCRA, a credit is allowed for paid family leave. Employers with under 500 employees are required to provide expanded family and medical leave related to COVID-19. Under the new law, employees are entitled to two thirds of their regular pay up to $200 per day for 10 weeks (maximum $10,000). Again, this credit is allowed against taxes imposed by IRC § 3111(a) or 3221(a).
Pursuant to the CARES Act, an eligible employer can take an employment tax credit equal to 50% of qualified wages of up to $10,000 per employee for wages paid between March 12, 2020 and December 31, 2020. The maximum credit per employee is therefore $5,000. The credit is used to reduce the employer’s quarterly employment taxes and any excess is refunded to the employer.
To be eligible to take the Employee Retention Credit, the employer must have been carrying on a trade or business in 2020 and be subject to at least one of the following conditions:
· The business was partially or fully suspended due to a governmental order related to COVID-19; or
· The business suffered a year over year 50% decline in gross receipts in a calendar quarter.
Employers taking the credit due to the decline in gross receipts test can continue to take the credit for calendar quarters through December 2020, up to and including the first quarter where the company’s gross receipts are 80% of gross receipts of the same quarter in the prior year.
This Employee Retention Credit is reduced by any credits allowed under subsections (e) & (f) of IRC § 3111 (relating to credits for employment of qualified veterans and credits for research expenditures of qualified small businesses). The credit is also reduced by credits taken for paid sick leave and paid family leave under the FFCRA.
Any wages taken into account under this provision of the CARES Act cannot be considered in determining the credit under IRC §45S. The 2017 Tax Cuts and Jobs Act added section 45S to the Internal Revenue Code which provides for an income tax credit for wages paid to qualifying employees on family and medical leave. Since this is an income tax credit, IRC § 280E would clearly preclude its application for cannabis businesses. This provision should be irrelevant for cannabis industry companies because IRC § 280E would deny the income tax credit anyway.
Employers can use Form 7200 to request an advance payment of the tax credits that will be claimed on their quarterly tax filings. However, the instructions to the form encourage taxpayers to first reduce their employment tax deposits to account for the credits. They can then request the amount of the credit that exceeds their reduced deposits by filing Form 7200 or wait to get a refund when they claim the credits on their employment tax returns.
The CARES Act also provides for a deferral of the employer’s portion of Social Security taxes required to be deposited on or after March 27, 2020 and before January 1, 2021. Any amounts deferred are required to be paid in two installments. Fifty- percent (50%) must be paid by December 31, 2021 with the balance paid by December 31, 2022. If employment tax credits are claimed, the deferral is only available for wages in excess of those wages considered for the credits.
Analysis
IRC § 280E provides that “ 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.”
IRC § 280E is contained in Subtitle A, chapter 1, subchapter B, Part IX (Items not Deductible (sections 261 to 280H)) of the Internal Revenue Code. In Part IX of the Code, IRC § 261 provides “In computing taxable income no deduction shall in any case be allowed in respect of the items specified in this part.” The remaining sections of Part IX provide for specific items that are not deductible in the computation of taxable income, including expenditures in connection with the illegal sale of drugs under IRC § 280E.
Credits against the income tax are provided for in Subtitle A, chapter 1, subchapter A part IV (Credits Against Tax (sections 21 to 54AA)). Business related credits are found in Subpart D of Part IV (sections 38 to 45T).
If Congress intended IRC § 280E to apply beyond income tax provisions (subtitle A), it could have done so by adding “No deduction or credit under this Title shall be allowed . . .” That would have ensured IRC § 280E’s application throughout all of Title 26 (the Internal Revenue Code).
Also note that none of the credits that were created by the FFCRA and the CARES act are part of, or regulated under, the Internal Revenue Code. Instead, the credits are regulated by the Acts themselves and all references to the Internal Revenue Code are outside of Subtitle A. Congress could have put restrictions on who could qualify for the credits in the Acts themselves, but they did not. Further, it would be inconceivable that the credits would be incorporated into the business-related credits (§§38 through 45T) as the congressional intent is to have the credits be immediately refundable. If they were made part of the business-related credits sections, the credits would be subject to limitation based on the amount of tax under IRC § 38(c)(1)(B). Therefore, since the employment tax credits are not income tax credits, IRC § 280E does not preclude cannabis companies from eligibility for the credits provided under the FFCRA and CARES Act.