It is common practice in the United States to renew a comprehensive farm bill about every five years. The bill functions as the primary source of agricultural and food policies per the guidance of the U.S. Department of Agriculture (USDA). So with the Agricultural Act of 2014 expiring, it was Congress’ duty to pass another bill. For the most part, it was business as usual. The 2018 Farm Bill does a number of things for the American people. It allocates billions of dollars in subsidies to farmers, bolsters farmers markets and rejects stricter limits on food stamps. But this year it was more than a mirror of the previous bill. This time the farm bill included a massive change.
Within the $867 billion 2018 U.S. Farm Bill was the legalization of industrial hemp.
Federally recognizing industrial hemp as a legal substance may very well have set in motion a path toward even greater changes. Not only does it present a number of opportunities in the clothing and other consumer product industries, but it hits closer to home on one of the hottest topics in the country – cannabis legalization. Hemp is one of the sources of the increasingly popular cannabidoil (CBD). The other is marijuana. Because of the CBD tie, some are linking the two together and looking to the latest news as an indicator of what may come for cannabis.
What’s in this article?
- What is hemp?
- How did the law treat hemp before the 2018 Farm Bill?
- What does the 2018 Farm Bill actually do for hemp?
- What are the tax and other financial effects of legalizing hemp?
- What are the economic benefits of legalizing industrial hemp?
- What does the decriminalization of hemp mean for the CBD and cannabis industries?
- What does this all mean for me?
- How can Squar Milner help me now?
What is hemp?
Hemp plants are technically the same species as marijuana plants, but without the psychoactive properties that produce a high thanks to far lower levels of tetrahydrocannabinol (THC) than marijuana. The two plants originate from the Cannabis sativa strain; however, they are bred differently and feature different biological attributes. Hemp even bears a distinct physical appearance, growing long, thin and fibrous compared to marijuana’s tendency to grow close to the ground.
Components of the hemp plant have long been used in different fabrics, rope and even ethanol products, to name a few. Most notably – and perhaps most profitably – hemp is a source of CBD.
What is CBD?
CBD is a cannabinoid extracted from cannabis in both the marijuana and hemp form. It has become increasingly popular in the recent years, as it is often touted as an elixir of sorts. People claim the medical benefits of CBD oil range from curing cancer to tempering menstrual cramps. It has also become considerably popular among people dealing with anxiety. Most significantly though, the U.S. Food and Drug Administration (FDA) approved a specific formulation of CBD – a drug called Epidiolex – to treat seizures associated with rare forms of epilepsy.
How did the law treat hemp before the 2018 Farm Bill?
Prior to the 2018 Farm Bill, federal law treated hemp with a patchwork of statutes, regulations and court decisions. Ultimately, the conclusion of it all allowed the importation of certain hemp products, but prohibited the domestic production of the crop.
The Controlled Substances Act (CSA) set in place decades ago, classified hemp as a Schedule I controlled substance; thereby federally criminalizing the plant. A place on the list of Schedule I substances landed hemp alongside the likes of LSD, heroin and MDMA (ecstasy). Hemp’s spot on the list came about in the 1970s when Congress criminalized all forms of cannabis – in part because they could not distinguish the difference between hemp and marijuana. So for decades, hemp – despite its usefulness in clothing, skin products, and other ordinary objects – sat on the Schedule I list of illegal substances.
However, the tides began to turn in 2012. Sen. Ron Wyden (D-OR) initiated a push for hemp legalization. Around the same time that Wyden introduced his first bill to legalize hemp, Kentucky state officials acknowledged the crop as a possible alternative for farmers in the state struggling to make profits off of tobacco. Thus, in 2012, then Kentucky agricultural commissioner James Comer made the legalization of hemp one of the top priorities in his state. The bill passed in the state legislature with bipartisan support but stalled under the state attorney general due to the illegality of the substance at the federal level.
This obstacle forced Kentucky hemp advocates to direct their attention towards the U.S. Congress. In 2013, the officials and advocates found their audience in Sen. Mitch McConnell (R-KY). With McConnell’s support, he, along with Sen. Rand Paul (R-KY), Sen. Wyden and Sen. Jeff Merkley (D-OR), introduced the first bipartisan iteration of the Industrial Hemp Farming Act. The intentions of the Act were to remove hemp from the controlled substances list and permit legal growth as an agricultural commodity.
Despite bipartisan support, the bill hit a snag. The ties to cannabis reared their ugly head, and the bill failed under the excuse of excessive political liability. However, as the Senate’s Majority Leader and a staunch supporter of the initiative, Sen. McConnell urged for the industrial legalization of hemp.
Thus, when the Farm Bill of 2014 emerged it featured the means to create pilot research programs. These pilot programs authorized universities and state departments of agriculture to initiate hemp growth and research. Even with strict restrictions set in place by the Drug Enforcement Administration (DEA), at least 19 states participated in the pilot program. In fact, the hemp pilot program in Kentucky produced more than $16 million for farmers in the state. Farmers across the U.S., from Colorado to North Carolina, also benefitted from their respective programs.
The Farm Bill of 2014 set the stage for possible changes to hemp legality in 2018.
So what does the 2018 Farm Bill actually do for hemp?
After long decades of conflated statutes, regulations and legal enforcement, the 2018 Farm Bill officially differentiates marijuana and hemp by removing hemp from Schedule I of the CSA. In addition, the bill clarifies that industrial hemp plants can now be grown domestically. This amendment to the CSA decriminalizes the production and use of hemp and its derived products that match the definition of industrial hemp, such as seed oil, CBD oil, fibers and paper. By decriminalizing hemp, it also moves the responsibility of regulating the crop from the DEA to the USDA. Furthermore, the bill expands the provisions of the 2014 Farm Bill which created the hemp pilot programs.
The new bill formally defines hemp as containing 0.3% or less of THC, on a dry weight basis.
What are the tax and other financial effects of legalizing hemp?
Legalizing industrial hemp opens up a number of previously unobtainable tax credits and incentives.
Section 280E is a thing of the past
Under prior regulations, hemp was often subject to Internal Revenue Code (IRC) Section 230E. This specific tax code prevented any businesses working with Schedule I or Schedule II drugs, as defined by the CSA, from taking business deductions or credits on their federal income tax returns. As a result the only cost recovery for these companies was through cost of goods sold. However, as hemp is no longer a Schedule I substance, it is no longer subject to Section 280E laws and hemp producers can legally tap into tax incentives and other beneficial farming tax rules.
Possible farm tax benefits
For farms with less than $25 million in gross receipts over the three prior years, there is no need to track inventory. As a result there is no add-back to taxable income for ending inventory. In addition, in the event a farm does not sell all of the crop from the previous year’s harvest, the taxpayer is still eligible to deduct the production costs. This varies from previous regulations, when hemp was illegal, as the act of growing hemp was deemed manufacturing, not farming, which requires an add-back of ending inventory at the end of the year.
Also in terms of farming, those with less than $25 million in gross receipts over the three prior years may use the cash method of accounting. Between no tracking inventory requirement and the availability of cash accounting, taxpayers are able to both manage their taxable income by purchasing supplies, fertilizers, equipment, and other tools in preparation for the upcoming harvest and take those deductions in the current year.
R&D tax credits
Decriminalizing hemp opens up a wealth of opportunity for those involved in the hemp industry to take advantage of tax incentives that have long evaded hemp producers and distributors. One of the more significant tax credits is the R&D Tax Credit. Research and development is vital for both sustaining the industry’s current corporate footprint as well as promoting future growth. Some potential qualifying activities conducted by cultivators and dispensaries include:
- Experimenting to produce stronger, healthier and better quality plants
- Testing new methods to increase crop yield
- Developing original plant varieties
- Creating new or improved methods for harvesting and/or processing the plant
- Designing innovative uses for industrial hemp fibers
- Conceptualizing original hemp-related products
Bonus depreciation and Sec. 179
Until January 1, 2024, eligible equipment is available for immediate 100% bonus depreciation. This comes on the heels of new tax reform laws which also offer owners of specified property the ability to qualify used property, not just new, for bonus depreciation.
Similarly, the IRC Section 179 rules expanded under the Tax Cuts and Jobs Act (TCJA) in 2017. Sec. 179 provides for full immediate deductions of certain equipment, like vehicles. Also, the dollar limits of the deductions increased to $1 million in 2018.
Improved access to banking and borrowing
As the cannabis industry also fully understands, running a business featuring banned controlled substances makes finding financial services institutions willing to work with you almost impossible. Without viable banking options, it leaves your business vulnerable to theft and makes it difficult to open lines of credit needed to grow your business. However, as hemp is no longer a Schedule I controlled substance, it opens up the banking and borrowing possibilities for companies involved in the industry.
What are the economic benefits of legalizing industrial hemp?
As one of the sources of CBD, the legalization of hemp has had a profound impact on the CBD oil market.
Prior to hemp legalization and relying solely on imported goods, in 2017 the CBD industry grossed over $350 million in consumer sales. However, between growing popularity and hemp’s new legal status, experts predict the industry to swell past $1 billion in sales by 2020.
Beyond these massive numbers, commercial growers reported $100 per-acre more profit on hemp than canola. Even more specifically, hemp grown particularly for CBD oil can earn $8,000 per acre versus $600 per acre for corn. Hemp is profitable and sustainable and creates plenty of opportunities for farmers, especially in arid western states.
What does the decriminalization of hemp mean for the CBD and cannabis industries?
The CBD Industry
Even with the legalization of hemp, the legal status of CBD remains unclear. The DEA continues to classify CBD as illegal. Similarly, the FDA still considers CBD a drug and categorizes it as illegal to integrate into food or health products without FDA approval. Following hemp legalization, the FDA Commissioner Scott Gottlieb issued a statement reasserting that the FDA still requires CBD companies to obtain approval from the FDA. However, if CBD companies receive FDA approval, the economic potential is massive.
The 2018 Farm Bill and action by the Department of Justice (DOJ) does create exceptions to CBD’s Schedule I status in certain situations. More specifically, the bill ensures that any cannabinoid derived from hemp will be legal, if and only if that hemp is produced by a licensed grower in a manner consistent with the Farm Bill and other associated federal and state regulations.
The Cannabis Industry
The legalization of hemp, and the surge of CBD products, comes at a time when support for marijuana legalization is gaining ground across a multitude of states. On a cultural and societal level, marijuana has been undergoing a rebrand to go by “cannabis” as an effort to shy away from the stoner stereotypes. The substance is also moving quickly into the mainstream, even breaking into the luxury and wellness markets. Entrepreneurs are even building restaurants around the concept of integrating food and cannabis.
So advocates of federal marijuana legalization hope that the recent legalization of hemp will help remove the stigmas haunting cannabis, as well as demonstrate the economic benefits of legalization.
What does this all mean?
Hemp, for the first time in a very long time, is legal in the United States – under certain specifications. It opens the doors for domestic growth of the crop and production of everyday products like clothing, skin treatments, lotions, and more. However, it also creates a possible gateway for legal CBD oil. Both hemp and related CBD oil come from the Cannabis sativa plant which is the same species of plant as marijuana. The relationship is there, albeit a tangential one, but the recent hemp status change has raised hopes among cannabis legalization advocates. Some see the move as a beacon of hope for potential decriminalization of marijuana across the country – not just in a select number of states.
Furthermore, by legalizing hemp and particular iterations of hemp-derived CBD oil, the country and our lawmakers have the chance to analyze the economic effects, as well as research medical ones. Under regulation from state agriculture departments, hemp researchers are eligible to apply for USDA grants, thereby generating greater opportunity to assess the benefits, side effects and more of CBD oil. Greater understanding of the actual effects may lead to a greater likelihood that CBD and cannabis make their way off of the Schedule I controlled substances list.
How can Squar Milner help me now?
Our team of professionals is prepared to help you and your business capitalize on the tax perks of being involved in a newly legal hemp and hemp-derived CBD industry. We can work with you to identify the greatest opportunities for tax credits and incentives as we optimize your tax savings.
Our dedicated cannabis practice boasts considerable experience working with clients in the cannabis and CBD industries. For more information, reach out and see how we can start helping you.
Disclaimer: This material has been prepared for informational purposes only, and is not intended to substitute for obtaining accounting, tax, or financial advice from a professional tax planner or financial planner. All information is provided “as is,” with no guarantee of completeness, accuracy, timeliness or of the results obtained from the use of this information.
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