Navigating 280E Cannabis Accounting in 2026: COGS, Compliance, and What Might Change

If you run a cannabis business, you have probably had this moment: You look at your tax return and see a profit that has absolutely nothing to do with the cash sitting in your bank account. 

That is 280E. And it is still very much alive.

At the federal level, Section 280E disallows most ordinary business deductions for companies trafficking in Schedule I or II substances. Rent, payroll, marketing, admin, and professional fees do not reduce taxable income the way they normally would.

That leaves you with one real lever: cost of goods sold, or COGS.

Why 280E Hits Cannabis Margins So Hard

280E does not mean you are taxed on gross revenue. It does mean most expenses below gross profit are disallowed.

If your books are loose, inventory does not tie, or allocations are unsupported, the result is a taxable income number that has little connection to reality.

Clean books do not make 280E go away, but they can make the numbers defensible and the tax outcome more predictable.

2026 Status: Rescheduling Is Not Final

DOJ/DEA published the proposed move to Schedule III on May 21, 2024. The January 2025 hearing was postponed, and no final rule has been issued.

280E still applies.

If cannabis is moved to Schedule III, 280E would generally no longer apply. That would change the tax treatment, but it would not make the industry federally legal or remove other regulatory constraints.

How Cannabis Businesses Determine COGS Under §471

Cannabis businesses determine inventory costs under §471 as it existed when 280E was enacted. Section 263A cannot be used to push otherwise nondeductible expenses into inventory.

COGS varies by business. It depends on your role in the supply chain and whether your records support the position.

• Retail/dispensaries
  COGS is generally limited to inventory purchase price, inbound freight, and handling costs tied to getting inventory ready for sale. Payroll, rent, marketing, and admin expenses do not belong in COGS.
• Cultivation/production
  Producers can include a broader set of costs, such as direct labor and certain production-related overhead. General admin, marketing, and non-production expenses still do not qualify.

What the IRS Looks For in Cannabis COGS

Your COGS calculation is only as strong as the support behind it. Inventory counts must tie to your books. Vendor documentation and production support should be maintained. Labor and overhead allocations must be documented and consistently applied. At a minimum:

• Reconcile inventory and keep it tied to the books
• Maintain support for labor and overhead allocations
• Separate retail, production, and administrative activity
• Keep inventory rollforwards current
• Document COGS methodology before filing

If you cannot show how a number ended up in COGS, the position will not hold up.

State Tax Treatment

Many states allow deductions disallowed under 280E at the federal level, yet federal and state tax treatment do not always align. Multi-state operators should evaluate state treatment annually rather than assume consistency. 

What to Focus on Now

Rescheduling may change the landscape, but it has not happened yet.

The operators in the strongest position under 280E have clean books, consistent inventory processes, and well-supported COGS. Most businesses have an accounting problem that creates a 280E issue.

Wrapping things up

280E accounting involves a lot of moving parts: inventory, allocations, documentation, and state-level differences. Many operators don’t have the time to stay on top of all of it while running the business.

A second look at the accounting often reveals where margins are being lost or where the books would not hold up under scrutiny. Book a meeting with me and we can review your setup together.

Quick FAQ

• Can cannabis businesses deduct ordinary business expenses under 280E? Cannabis businesses generally cannot deduct ordinary business expenses at the federal level under 280E.
• What counts as COGS for cannabis? COGS depends on your role in the supply chain and must be supportable under Section 471.
• Can cannabis businesses use §263A to capitalize more costs into inventory? Section 263A cannot be used to capitalize otherwise disallowed expenses. 
• Would Schedule III make 280E go away? If cannabis is moved to Schedule III, 280E would generally no longer apply.
• Do states follow federal 280E automatically? No. State treatment varies and should be evaluated annually.

About Dark Horse CPAs

Dark Horse CPAs provides an integrated suite of services including tax, accounting, fractional CFO, and wealth management to small businesses and individuals across the U.S. The firm was established to transform the client experience by offering personalized, high-quality services that small businesses and individuals deserve. As Dark Horses in their industries, these businesses benefit from advanced tax strategies and accounting insights typically reserved for larger companies. With a nationwide presence and a team of dedicated professionals, Dark Horse CPAs is committed to your success. Get a quote today.