The Department of Justice final order (AG Order No. 6754-2026, dated April 22, 2026 and published April 28, 2026 at 91 FR 22714) moves FDA-approved cannabis products and state-licensed medical cannabis from Schedule I to Schedule III of the Controlled Substances Act. Because IRC §280E applies only to businesses trafficking in Schedule I and Schedule II controlled substances, the order, effective April 28, 2026, removed state-licensed medical cannabis activities from §280E's reach; Treasury has said it expects a transition rule under which rescheduling first applies for a business's full taxable year that includes the effective date. Recreational and adult-use cannabis remains Schedule I. This is the most significant cannabis tax development in decades - and it took effect on April 28, 2026. This guide covers what changed, what did not, and what operators should do right now.
Rescheduled to Schedule III (§280E no longer applies): FDA-approved drug products containing marijuana. Marijuana products subject to a qualifying state-issued license to manufacture, distribute, or dispense for medical purposes.
Remains Schedule I (§280E still applies): Adult-use and recreational cannabis, even in states where it is legal. Bulk marijuana and marijuana extract outside licensed medical systems. Synthetically derived THC. Unlicensed activity of any kind.
Next milestone: The DEA administrative hearing on whether all cannabis moves to Schedule III was noticed to begin June 29, 2026 and conclude not later than July 15, 2026 (91 FR 22777). Any ALJ recommended decision will not by itself determine final scheduling; the DEA Administrator will then issue the final determination.
IRC §280E was enacted in 1982 in response to a Tax Court case in which a cocaine trafficker successfully deducted business expenses. Congress responded by adding §280E, which provides that no deduction or credit is allowable for any expenditure in connection with the trafficking in controlled substances under Schedule I or Schedule II of the Controlled Substances Act.
For cannabis businesses operating legally under state law but illegally under federal Schedule I, §280E meant that ordinary and necessary business expenses - rent, payroll, marketing, professional services, depreciation on equipment - were entirely non-deductible. Only the cost of goods sold (COGS), calculated under IRC §471, remained deductible because COGS is a reduction in gross receipts rather than a deduction. The result was effective federal tax rates of 60-80% for well-run cannabis businesses - compared to 21-28% for comparable businesses in other industries. Many operators were paying federal income tax on money they were losing on a cash basis.
Even under §280E, the cost of inventory - COGS - was always deductible. The IRS position, upheld in multiple Tax Court cases including Harborside Health Center v. Commissioner, was that §280E disallows deductions (under §162) but does not override the definition of gross income - meaning COGS remains a reduction in gross receipts under §471. Cannabis operators under §280E were forced to capitalize as many costs as possible into inventory (rent attributable to growing and production space, labor involved in cultivation, overhead directly related to producing the product) to maximize COGS and minimize the §280E exposure. This §471 capitalization strategy was the primary tax planning tool for the industry.
Under Schedule III, this strategy is no longer necessary. Operators can now deduct rent, payroll, and other expenses through the normal §162 framework, without the forced capitalization discipline that §280E required.
Acting AG Todd Blanche's order explicitly encouraged the Secretary of the Treasury to consider providing retrospective relief from §280E liability for state-licensed medical cannabis operators for prior taxable years. Treasury has not yet issued guidance. Operators should not file amended returns claiming prior-year §280E refunds until IRS guidance is issued. The practical questions Treasury must resolve include: the form of the transition rule (Treasury has said it expects rescheduling to first apply for a business's full taxable year that includes the April 28, 2026 effective date, for activities that no longer involve Schedule I or II substances), whether the look-back period is limited to the most recent open tax years, and how to handle operators who were both medical and adult-use in prior years.
Many dispensaries hold both a medical license and an adult-use license and sell both types of products. For these operators, the April 2026 order creates a bifurcated tax position: the medical operations are no longer subject to §280E; the adult-use operations still are. How to allocate shared expenses between the two activities - rent for a combined dispensary, payroll for employees who serve both medical and recreational customers - is an unresolved question that requires IRS guidance. Operators in this position should consult their tax advisors and begin tracking expenses by activity category prospectively.
The DOJ simultaneously restarted the stalled broader rescheduling proceeding that would move all cannabis - including adult-use - to Schedule III. The DEA hearing was noticed to begin June 29, 2026 and conclude not later than July 15, 2026 (91 FR 22777). An ALJ recommended decision will not by itself determine final scheduling status, parties may file exceptions, and the DEA Administrator will then issue the final determination. If a final rule moves adult-use cannabis to Schedule III, adult-use operators would also lose their §280E burden. Legal challenges from opponents of rescheduling are expected and could extend the timeline. The proceeding warrants close monitoring by any operator, investor, or advisor with cannabis industry exposure.