1. The Federal-State Conflict Every Operator Must Understand
The central legal problem in cannabis law is not complicated to describe. It is complicated to manage.
State cannabis programs issue licenses, collect taxes, and regulate businesses as if cannabis were a lawful commodity. Federal law treats those same businesses as criminal enterprises. The federal government has chosen not to aggressively prosecute state-licensed cannabis businesses in recent years, but that policy is not a law. It is an enforcement priority that changes with administrations, U.S. Attorneys, and federal investigations that touch cannabis business operations.
The practical consequences of federal illegality fall into three categories. The first is banking. Most federally insured banks and credit unions will not serve cannabis businesses because doing so risks federal regulatory action. The second is taxes. Federal tax law denies cannabis businesses the right to deduct ordinary business expenses. The third is contracts. Cannabis business agreements are unenforceable in federal court and in some state courts because the underlying activity violates federal law.
Internal Revenue Code Section 280e: the Tax Problem No Cannabis Business Can Ignore
Section 280E of the Internal Revenue Code prohibits businesses trafficking in Schedule I or Schedule II controlled substances from deducting ordinary business expenses from their federal taxable income.
The practical effect is significant. A cannabis retailer with $5 million in gross revenue and $4 million in operating expenses does not pay federal income tax on $1 million in profit. It pays tax on the full $5 million, less only the cost of goods sold. At a federal corporate tax rate of 21 percent, the difference between being able to deduct operating expenses and being unable to do so can represent hundreds of thousands of dollars in additional annual tax liability for a mid-size cannabis business.
The only deduction § 280E does not block is cost of goods sold, which covers the direct cost of producing or acquiring the cannabis products sold. Cannabis businesses structure their operations to maximize the proportion of expenses that qualify as cost of goods sold. That strategy requires precise accounting and a defensible allocation methodology. IRS audits are significantly more frequent in the cannabis industry than in other retail sectors, and an accounting structure that cannot withstand scrutiny produces back-tax assessments that compound with interest and penalties for every year the methodology was applied. An attorney who handles bond financing business compliance can review your current allocation methodology and tell you whether it holds up.
| Compliance Area | Federal Framework | State Framework | Primary Risk |
|---|---|---|---|
| Tax treatment | § 280E denies ordinary deductions | State tax varies, some mirror federal | IRS audit and back tax assessment |
| Banking access | Federal illegality blocks most FDIC banks | State-chartered banks limited | Cash-only operations and transport costs |
| Licensing | No federal license exists | State license required for each activity | License revocation for compliance failures |
| Product regulation | FDA has authority over CBD products | State health agency regulates testing | Product recalls and stop-sale orders |
2. Cannabis Law and Business Licensing: What Each State Actually Requires
Cannabis licensing is a state-by-state process with no federal template, and the requirements differ significantly in ways that affect how businesses are structured, capitalized, and operated.
Most state cannabis programs require separate licenses for each activity in the supply chain. A company that cultivates, manufactures, and retails cannabis typically needs three distinct licenses issued by the state regulatory body, each with its own application requirements, fees, background check obligations, and ongoing compliance conditions. Vertical integration is permitted in some states and restricted or prohibited in others.
Background check requirements for cannabis license applicants are among the most demanding in any regulated industry. Most states disqualify applicants with prior felony convictions, particularly drug-related felonies, regardless of how long ago the conviction occurred. Some states have added equity provisions that create expedited licensing pathways for individuals from communities disproportionately affected by prior cannabis enforcement. These provisions vary widely in scope and the documentation required to qualify.
Compliance conditions attached to cannabis licenses include physical security requirements, track-and-trace inventory systems, testing mandates for all products before sale, labeling and packaging specifications, and advertising restrictions designed to prevent marketing to minors. A license holder who fails to meet any of these conditions risks suspension or revocation in an administrative hearing process that operates independently of the criminal law system and can result in permanent loss of the license without any criminal conviction.
Cannabis License Applications: Where Most Businesses Lose before They Start
Cannabis license applications are scored competitions in most states, not simple eligibility reviews. The applicant who submits the most complete, compliant, and compelling application wins. The applicant who submits a technically deficient application loses regardless of the quality of their business plan or their personal qualifications.
Common deficiencies that disqualify cannabis license applications include incomplete background check documentation for all owners and investors above specified ownership thresholds, failure to demonstrate proof of site control before the application deadline, insufficient capitalization documentation in the form required by the state, and missing operating plan components such as employee training protocols, security system specifications, or track-and-trace compliance procedures.
Application protests and license denials can be challenged through the state's administrative appeal process. When a competitor is awarded a license based on a scoring methodology applied inconsistently or a factual error in how the applicant's submission was evaluated, a protest filed within the state's review period can result in rescoring or a new licensing round. An attorney who handles administrative law and cannabis licensing matters can review the scoring sheet, identify errors, and file a substantiated protest before the appeal window closes.
Cannabis businesses face IRS audits, license compliance reviews, and banking restrictions that non-cannabis businesses do not. Each operates on its own timeline and its own set of consequences. Contact our cannabis law attorneys today for a confidential review of your federal and state compliance posture before an agency action is initiated.
3. Cannabis Law and Criminal Defense: When the Business Becomes a Federal Case
The gap between a licensed state cannabis operation and a federal criminal investigation is narrower than most operators realize, and the trigger is rarely the cannabis itself.
Federal prosecutors do not typically pursue state-licensed dispensaries for selling cannabis. They pursue cannabis businesses for money laundering when the business uses the banking system in ways that mask the nature of the deposits, for tax evasion when the business fails to report income accurately, for violations of the Bank Secrecy Act when the business structures cash transactions to avoid reporting thresholds, and for operating outside the boundaries of the state license in ways that create an unlicensed trafficking operation.
The connection between cannabis business operations and federal criminal exposure runs through financial activity. A cannabis business that deposits cash in amounts just under the $10,000 Currency Transaction Report threshold, that uses multiple bank accounts to disperse deposits, or that pays employees or vendors in cash to avoid a paper trail has created money laundering exposure regardless of whether the underlying cannabis sales were state-licensed. An attorney who handles federal drug crime and cannabis matters can review your financial practices and tell you which ones create federal exposure that your state license does not address.
Hemp, Cbd, and the Regulatory Gray Zone under the 2018 Farm Bil
The 2018 Farm Bill removed hemp from Schedule I and authorized USDA to regulate hemp cultivation, but it did not resolve the regulatory status of CBD products derived from hemp, and the gap between what is legal and what is regulated is a significant source of legal risk for hemp and CBD businesses.
Hemp is defined by federal law as cannabis with a delta-9 THC concentration of no more than 0.3 percent on a dry weight basis. Products made from hemp that stay within this threshold are not controlled substances under the Controlled Substances Act. They are, however, subject to FDA regulatory authority over food, dietary supplements, and drugs. The FDA has not approved CBD as a food additive or dietary supplement ingredient and has issued warning letters to companies making health claims about CBD products that it characterizes as unapproved drug claims.
The regulatory status of delta-8 THC, delta-10 THC, and other hemp-derived cannabinoids is actively contested in both state and federal courts. Some states have banned these compounds outright. Others have no specific regulation addressing them. The federal position remains unsettled, and rules in this space change without notice. An attorney who handles controlled substances act and hemp regulatory matters can review your product line, labeling, and distribution structure against current FDA guidance and state law to identify where exposure exists.
Cannabis Employment Law: What Employers and Employees Need to Know
Cannabis legalization has created a category of employment disputes that did not exist ten years ago, and neither employers nor employees have clear federal law to rely on when conflicts arise.
Employees who use cannabis legally under state law and are terminated after a positive drug test have brought wrongful termination claims in a growing number of states. Courts in some jurisdictions have ruled in the employee's favor, finding that termination for off-duty legal cannabis use violates state disability discrimination laws when the use is medically authorized. Courts in other jurisdictions have ruled that employers retain the right to enforce drug-free workplace policies regardless of state cannabis legalization. The outcome depends on the state, the nature of the job, whether federal contracts are involved, and whether the employee holds a safety-sensitive position.
Cannabis industry employers face a distinct set of employment law issues. Employees who handle cannabis are frequently classified in ways that complicate overtime and minimum wage compliance under the Fair Labor Standards Act. Cash compensation practices in response to banking limitations create wage record-keeping risks. The overlap between state cannabis employment protections and federal OSHA workplace safety regulations creates compliance obligations that differ from those in non-cannabis industries. An attorney who handles drug testing protocols and cannabis employment matters can review your drug testing policy, termination procedures, and compensation practices against the specific requirements of your operating state.
Cannabis businesses that generate significant cash revenue, operate across state lines, or have investors with federal government relationships face federal exposure that state licensing does not resolve. Contact our attorneys today before a banking issue, tax audit, or employee dispute becomes a federal matter.
4. Frequently Asked Questions about Cannabis Law
Cannabis entrepreneurs, investors, and employees navigating the legal landscape for the first time ask the same questions about what is actually permitted, what is actually taxed, and what happens when state and federal law collide. The answers below address those questions directly.
What Is Cannabis Law and What Does It Cover?
Cannabis law is the body of federal and state statutes, regulations, and court decisions governing the cultivation, manufacture, distribution, retail sale, possession, and taxation of cannabis and cannabis-derived products. It covers state business licensing and compliance, federal tax treatment under Internal Revenue Code § 280E, criminal liability under the federal Controlled Substances Act, employment law issues arising from cannabis use and testing, and the regulatory status of hemp and CBD products under the 2018 Farm Bill.
Is Cannabis Legal under Federal Law?
No. Cannabis remains a Schedule I controlled substance under the Controlled Substances Act, 21 U.S.C. § 812, making cultivation, distribution, and possession federal crimes regardless of what state law provides. The federal government has exercised prosecutorial discretion not to aggressively pursue state-licensed cannabis businesses, but that discretion is not a legal protection and can be reversed at any time. Federal illegality continues to affect cannabis businesses through banking restrictions, tax treatment under § 280E, and the unenforceability of cannabis contracts in federal court.
Why Can'T Cannabis Businesses Deduct Their Expenses Like Other Businesses?
Internal Revenue Code § 280E prohibits businesses that traffic in Schedule I or Schedule II controlled substances from deducting ordinary and necessary business expenses from federal taxable income. Because cannabis remains Schedule I under federal law, cannabis retailers, cultivators, and manufacturers cannot deduct salaries, rent, utilities, or most other operating costs. Only the cost of goods sold remains deductible. This provision can more than double the effective federal tax rate of a cannabis business compared to a comparable non-cannabis business with the same revenue and expense structure.
What Happens If My Cannabis Business Loses Its State License?
License revocation results in immediate cessation of all licensed cannabis activities and may trigger review of related licenses held by the same entity or its principals. The revocation process is an administrative proceeding governed by state law, typically involving a notice of violation, an opportunity to respond, and a hearing before the state cannabis regulatory authority. Revocation decisions can be appealed through the state administrative appeal process and, if necessary, through state court. The specific timeline and grounds for appeal depend on the state's administrative procedure act and cannabis regulations.
Can an Employee Be Fired for Using Cannabis Legally under State Law?
In many states, yes. Federal law and the terms of federal contracts create drug-free workplace requirements that many employers must meet regardless of state cannabis law. Even in states with employment protections for off-duty cannabis use, safety-sensitive positions, federally regulated industries, and positions covered by federal contractor requirements typically remain subject to termination for a positive cannabis test. The answer depends on the state, the nature of the position, whether the use was medical or recreational, and the employer's contractual obligations.
What Is the Legal Status of Hemp-Derived Cbd Products?
Hemp and hemp-derived CBD with less than 0.3 percent delta-9 THC are not Schedule I controlled substances under the 2018 Farm Bill. However, the FDA has not approved CBD as a lawful food additive or dietary supplement, and it has taken enforcement action against companies making unapproved drug claims about CBD products. State law governing hemp-derived cannabinoids varies significantly, and the regulatory status of delta-8 THC and other minor cannabinoids derived from hemp is actively contested in state and federal regulatory proceedings with no settled outcome.
28 Oct, 2025
