Before I start, I would like to remind everyone that Cannabis is a Schedule 1 substance under the Controlled Substance Act and as such it is illegal under federal law. With that being said lets jump into what is CHAMPS. CHAMPS is a valuable US Tax Court case that has ruled that dispensaries may be able to retain some ordinary business deductions, as long as they abide by the "Two Business" rule. CHAMPS is an acronym for the court case Californians Helping to Alleviate Med. Problems, Inc. v. Commissioner that came down in 2007. CHAMPS was operating the dispensary using a caregiver model that offered palliative care and counseling to individuals with debilitating diseases. Due to the California Compassionate Use Act passed in 1996, the dispensary provided cannabis to members who requested it. The business charged a membership fee that reflected the cost of the caregiving services as well as the medical cannabis. This fee conformed with California law, because in the caregiver model they are allowed to be reimbursed for costs.
However, at the audit the IRS decided that all expenses were non-deductible because it was held that CHAMPS was entirely connected to trafficking a controlled substance.
Almost half of the members at the business suffered from AIDS, and the rest suffered from other terminal or chronic diseases such as cancer. The main purpose of the business was to provide care-giving services to its members and help alleviate some of the distress they were in. It provided medical cannabis pursuant to the provisions of California law to try and benefit the patients health. While the business provided cannabis for its patients, the most important fact is that the palliative care services were extensive. Support groups and counseling on life coping issues were among the services offered by the business. So CHAMPS was a palliative care entity that also happened to dispense cannabis, and not just a cannabis dispensary. At the trial, CHAMPS argued that it had a primary business of palliative care-giving, and a second business as a cannabis dispensary. The court agreed that the deductions for the non-trafficking business should not be subject to IRC 280E, and can taken as ordinary business expenses for that business.
Under the CHAMPS ruling there are three criteria that are used:
1. Degree of organizational and economic interrelationship of various undertakings.
2. Business purpose which is (or might be) served by carrying on the various undertakings separately or together in a trade or business or investment setting.
3. Similarity of various undertakings.
The last criteria was expanded later in 2012 in the court case Rupp v. Commissioner. Rupp delineated nine factors that would help determine whether the two undertakings share a close relationship to one another. These factors helped frame the outer limitations of the 'two business rule', and were ultimately used by the court to rule against the defendant in the case Olive v. Commissioner.
CHAMPS is an important court case for the cannabis industry and every dispensary owner should at least be aware of it. It allows for the possibility of dispensary owners to deduct some business costs they normally could not to another business. CHAMPS is a precedent for a dispensary trying to find a way to reduce its tax burden. However, it is a complicated process. Olive v. Commissioner is a prime example of a dispensary failing to meet the standards of the "two business" rule. A dispensary trying to use this rule should first do extensive research into the two court cases mentioned above to understand what it takes to meet the requirements.
Contact us for a consultation on how to blueprint your business in order to try and best satisfy the "two business" rule laid out in CHAMPS and further defined in Olive.