The short answer
Section 280E applies to the trade or business of trafficking, not to a particular entity type, so choosing a C corp, S corp or LLC does not by itself avoid it. Entity choice changes who pays the tax (the company or the owners), the rate, and how cash has to be distributed. Management-company and multi-entity structures can help only when each business is genuinely separate; courts have repeatedly treated a management company serving a dispensary as part of the trafficking business.
Does your entity type change how 280E applies?
No. Section 280E denies deductions and credits for amounts paid or incurred in carrying on any trade or business that consists of trafficking in Schedule I or II controlled substances. The test is about the activity, not the legal wrapper. A dispensary taxed as a C corporation and an identical dispensary taxed as a partnership both lose the same deductions.
What entity type does change:
- Who pays. A C corp pays its own federal income tax. An S corp, partnership or multi-member LLC passes income through to the owners, who pay on their personal returns.
- The rate. C corps pay a flat 21% federal rate. Pass-through owners pay at their individual rates, which can be higher.
- Cash needs. Pass-through owners owe tax on income they may never receive in cash, so the business usually has to make tax distributions.
- State treatment. Many states have decoupled from 280E for state income tax purposes, and the rules differ by state and sometimes by entity type. Check your state rather than assuming.
Schedule III note: state-licensed medical cannabis moved to Schedule III effective April 28, 2026, so 280E generally no longer applies to state-licensed medical activity from that date. Adult-use cannabis remains Schedule I and subject to 280E as of mid-October 2026. A structure built around adult-use exposure may look different for a medical-only operator.
C corp vs S corp vs LLC: what are the trade-offs?
Here is a side-by-side view of the federal considerations. It is a starting framework, not a recommendation; the right answer depends on your owners, state, growth plans and exit.
| Factor | C corporation | S corporation | LLC / partnership |
|---|---|---|---|
| Who pays federal income tax | The company | Shareholders | Members |
| Federal rate | Flat 21% | Owners' individual rates | Owners' individual rates |
| 280E applies? | Yes, to trafficking activity | Yes, flows through to owners | Yes, flows through to owners |
| Second layer of tax | On dividends | Generally none | Generally none |
| Ownership limits | Flexible; suits outside investors | 100 shareholder limit, one class of stock, restricted shareholder types | Flexible; complex allocations allowed |
| Cash for owners' tax bills | Not needed; company pays | Pro-rata distributions usually required | Tax distributions usually written into the agreement |
Two cannabis-specific wrinkles are worth flagging. First, because 280E inflates taxable income relative to cash profit, pass-through owners can owe significant personal tax in years when the business barely broke even on a cash basis. Second, S corps have rigid eligibility rules. Taking on a private-equity or foreign investor, or creating preferred stock, can break S status and is hard to unwind.
How does 280E hit pass-through owners? (Illustrative)
An illustrative example, with made-up numbers and simplified assumptions, shows the cash squeeze.
| Line | Amount |
|---|---|
| Revenue | $2,000,000 |
| COGS | $1,100,000 |
| Operating expenses (nondeductible under 280E) | $800,000 |
| Cash profit before tax | $100,000 |
| Taxable income passed to owners | $900,000 |
The owners report $900,000 of income but the business only generated $100,000 of cash profit. Whatever their personal rate, the tax on $900,000 is larger than the cash the business produced. A C corp in the same position would owe tax at the company level, which at 21% is about $189,000: still more than the cash profit, but it stays on the company's balance sheet rather than landing on the owners' personal returns.
This is why tax reserves belong in your 13-week cash flow forecast, regardless of entity type.
Do cannabis management companies avoid 280E?
A common structure puts the license in one entity and moves employees, real estate, IP or back-office functions into a separate management company that charges the licensed entity fees. The theory is that the management company isn't trafficking, so its expenses are deductible.
The courts have not been kind to this when the separation is thin. In Alternative Health Care Advocates v. Commissioner (Tax Court 2018), an S corporation that provided management services to a related medical marijuana dispensary was held to be trafficking itself, so 280E applied to it as well. In Harborside, the Tax Court also rejected the argument that the business had a separate non-trafficking trade or business.
Where the management company does real, arm's-length work, the structure may still serve legitimate purposes: liability separation, investor access, centralizing services across licenses, and owning real estate. What tends to fail is a management company whose employees handle, sell or directly facilitate cannabis, or one that only exists to shift deductions.
- Its staff should not buy, sell, handle or move cannabis.
- Fees should be priced like an unrelated provider would charge and documented in a written agreement.
- It should have its own books, bank accounts, payroll and ideally other customers.
- Intercompany charges should be recorded monthly, not plugged at year-end.
Also remember that a management fee paid by a licensed adult-use entity is generally one of the expenses 280E disallows on that side. Shifting costs into a management company and charging them back as a fee does not convert a nondeductible expense into a deductible one for the licensee; it just moves where the costs sit. Whether the overall structure saves any tax depends on facts that deserve careful modeling.
What do the separate-trade-or-business cases say?
Separate entities and separate trades or businesses are related but different questions. Even inside one entity, a genuinely separate business is not subject to 280E. Even across two entities, a single integrated business may be.
- CHAMP (2007). The Tax Court found an organization's caregiving services were a separate trade or business from its medical marijuana distribution, so related expenses were deductible.
- Olive. A dispensary that offered free activities and services alongside cannabis sales was held to have only one trade or business: selling cannabis. The Ninth Circuit affirmed.
- Harborside. Ancillary services and products were found to be incidental to the main trafficking business, not separate.
The pattern: a separate business needs its own economic substance, meaning its own revenue, customers, staff, and profit motive. Free add-ons and services that exist to support cannabis sales don't qualify. If you claim a separate line, its revenue and costs should live in their own classes or entity in your chart of accounts, with their own revenue, payroll and direct costs tracked separately all year rather than carved out at tax time.
What should you check before restructuring?
- State licensing rules.Many states require regulator approval for changes in ownership or control, and some regulate management agreements. A tax-driven restructure can trigger a licensing problem.
- Tax cost of the change.Converting entities or moving assets can create taxable events. Model the transition, not just the end state.
- Financing and investors.Lenders and investors may need a particular structure. S corp limits matter here.
- Schedule III status.Medical-only, adult-use-only and dual-license operators now face different federal tax profiles. Dual-license operators must separate activities and allocate shared costs with a reasonable, consistent, documented method, which our free Schedule III Split Check can review.
- Legal advice.Entity design is a legal and tax decision. Work with a cannabis attorney and tax advisor together; we support that team with the numbers and modeling through our fractional CFO service.
A good structure is one you can explain in two sentences and support with clean books. If it takes a flowchart and a prayer, it probably won't survive an exam.
Frequently asked questions
Is a C corp or an LLC better for a cannabis business?
Neither avoids 280E. The choice depends on your owners, investors, state rules and exit plans, so model both with a tax advisor before deciding.
Can a management company deduct expenses that the dispensary can't?
Only if it is genuinely not engaged in trafficking. In Alternative Health Care Advocates, the Tax Court applied 280E to a management company serving a related dispensary.
Does 280E flow through to S corp shareholders?
Yes. The disallowed deductions raise the S corp's taxable income, which passes through to shareholders and is taxed on their personal returns.
Should I restructure now that medical cannabis is Schedule III?
Maybe, but don't rush. Rescheduling of all marijuana is still pending, state licensing approvals may be required, and restructuring itself can trigger tax, so model it first.