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A new Treasury Department internal watchdog report criticizes the Internal Revenue Service (IRS) for failing to adequately advise taxpayers in the marijuana industry about compliance with federal tax laws.

In its review of IRS policy with respect to cannabis businesses, the Treasury Inspector General for Tax Administration (TIGTA) found that IRS is missing millions of dollars in tax assessments in state-legal markets and that taxpayers experience a significant impact due to an federal tax code known as 280E that prevents marijuana companies from making business deductions that are available to other industries.

Part of the solution, TIGTA said, should be for IRS to “develop and publicize guidance specific to the marijuana industry.”

“Such guidance would improve awareness of tax filing requirements for taxpayers in this industry, such as the correct application of” the policy, “which would reduce the burden of tracking inventory for certain small businesses,” the report, which was released on Monday, states.

280E has long been a source of intense hardship and frustration for the industry. First enacted in the 1980s as a way to block cartel kingpins from writing off yachts and fancy cars, it stipulates that businesses are ineligible for certain deductions if their income is derived from an illegal drug that falls under Schedule I or II of the Controlled Substances Act. While they may qualify for state-level deductions, the federal restriction ultimately means that marijuana businesses are subject to a significantly higher taxable income, increasing their effective tax rate up to around 70 percent.

“Guidance from the IRS would be greatly appreciated. For years, the vast majority of state-legal cannabis businesses have done their best to comply with Section 280E, consulting with tax professionals to get the best guidance possible,” Steve Fox, a strategic adviser with the Cannabis Trade Federation (CTF), told Marijuana Moment. “But the lack of guidance and consistency from the agency has made the process challenging.”

TIGTA’s audit considered the impact of this unique situation in three legal cannabis states in fiscal year 2016. About 60 percent of tax returns for cannabis businesses that were reviewed had likely had adjustments under 280E, which means IRS had about $48.5 million in unassessed taxes. That estimate, of course, is a notably smaller figure than the full impact of confusion surrounding 280E, as more than 30 states allow recreational and/or medical marijuana businesses and this report evaluated firms in only three of them.

Additionally for those three states, TIGTA estimated that the tax impact (i.e. costs associated with filing) for taxpayers to comply with 280E was $95 million, “or $475.1 million when forecasted over five years.”

Finally, the agency took a “statistically random sample of 90 marijuana businesses” that filed state tax returns in Washington State in 2016 to “determine whether these taxpayers were reporting all of their income.” Twenty-six percent of those companies likely had adjustments related to “underreported income or nonfiling of tax returns” for federal purposes.

“When projected over the population for Washington, the IRS missed the opportunity to address $3.9 million of potential assessments for Tax Year 2016, or $19.3 million when forecasted over five years,” the audit states.

“Given the transparency problems caused by lack of banking access—a fact which the IG recognizes—we should probably be a little skeptical of claims of widespread non-compliance,” Morgan Fox, media relations director of the National Cannabis Industry Association, told Marijuana Moment. “It is tough to say why the IRS would resist providing clarity, especially since that could theoretically result in more tax revenue in the short term.”

“However, the industry doesn’t need clarity on how to comply with unfair policies as much as it needs them to get fixed,” he added. “Cannabis banking and 280E reform would increase transparency and accountability, and greatly simplify the tax process for cannabis businesses. In short order, it would almost certainly result in more federal tax revenue as companies facing less onerous tax burdens become increasingly able to compete with the illicit market and drive more taxable sales.”

Fox of CTF said that the new report “is an acknowledgement that state-legal cannabis businesses are paying hundreds of millions of dollars in corporate taxes to the federal government every year.”

“While the focus of this report is on whether they are fully complying with the absurd 280E tax penalty, the real focus should be on the fact that they are legitimate tax-paying businesses,” he said. “It is time for Congress to fix 280E so that cannabis businesses are treated like every other business in this country.”

TIGTA made six recommendations to ensure compliance and provide needed clarity to taxpayers in the cannabis industry. IRS pushed back on several, including the agency’s request that it create specific guidance.

Recommendation 1: The IRS Small Business/Self-Employed (SB/SE) Division Commissioner should “develop a comprehensive compliance approach… for this industry and leverage State marijuana business lists to identify noncompliant taxpayers.”

IRS response: IRS said it depends on its available resources. It will continue to use its existing methods to identify noncompliance, and if it determines that additional measures are needed, it will “prioritize them based on resources available.”

Recommendation 2: The commissioner should “direct all examination areas to use Aging Reason Codes to track non-[compliance initiative project] marijuana business examination results.”

IRS response: The agency said it will “provide guidance to examiners to apply the appropriate code(s) to cases to track marijuana examinations.”

Recommendation 3: IRS should “develop guidance specific to the marijuana industry such as a Frequently Asked Questions document” and post it on the agency’s site to “improve awareness of the tax filing requirements for taxpayers in this industry, such as the application of 280E.”

IRS response: The agency said it already has an audit technique guide for cash-intensive businesses that could be useful to cannabis companies. However, it said it would “provide additional information” as needed.

Recommendation 4: TIGTA said the IRS chief counsel should work with the SB/SE commissioner to “develop and distribute, internally and externally, specific guidance on the application of” 280E compliance “for taxpayers that report Schedule I related activities on Federal tax returns.”

IRS response: The IRS chief counsel replied that it disagrees with the recommendation and stressed that it has other priorities it needs to fulfill before committing resources to developing that specific guidance.

Recommendation 5: The commissioner should “leverage publicly available State tax information and expand use of [federal/state] agreements to identify nonfilers and unreported income in the marijuana industry.”

IRS response: The agency said that “depends upon IRS priorities and availability of resources,” though it will review the current status of its agreements and use of publicly available state data.

Recommendation 6: The commissioner should “increase educational outreach towards unbanked taxpayers making cash deposits regarding the unbanked relief policies available.”

IRS response: IRS said it will “expand the penalty relief information currently available” on its website.

Although IRS said it doesn’t plan to issue guidance to the industry per the IG’s recommendation, that doesn’t necessarily mean it doesn’t appreciate the challenges that cannabis businesses and tax regulators face due to conflicting state and federal laws.

“Cash intensive businesses, particularly those that are illegal under federal law, create additional challenges for the IRS and the taxpayer,” IRS said in response to TIGTA’s findings. “The marijuana industry is largely unbanked due to the illegal status of marijuana at the federal level.”

“The taxpayer’s inability to utilize a bank for these businesses creates concerns of public safety, transparency, and accountability. It also hinders our enforcement efforts as it could minimize the types of third-party information documents available (e.g., Form 1099-K),” it continued. “The lack of available banking services creates an additional burden to the taxpayer, subjecting them to failure to deposit penalties. Legislative changes could address the challenges encountered with Internal Revenue Code (IRC) §280E, banking policies, and public safety.”

Though IRS officials didn’t cite specific legislation, it’s a point that TIGTA also picked up on, and the internal watchdog noted that the Secure and Fair Enforcement (SAFE) Banking Act or the Strengthening the Tenth Amendment Through Entrusting States (STATES) Act are examples of bills that could help resolve the conflict and normalize the industry. The House passed the SAFE Banking Act along largely bipartisan lines last year but it has stalled in the Senate.

IRS emphasized that it’s stretched thin due to budget cuts and hiring freezes in recent years, and that accounts for why it said it must be deliberate in how it prioritizes objectives.

Treasury Secretary Steve Mnuchin has on several occasions recognized issues related to the lack of access to financial services among marijuana businesses. For example, he’s said, IRS has had to build “cash rooms” to store tax payments from these companies because so many are forced to conduct business exclusively in hard currency.

That said, Mnuchin stressed that it’s not a problem that can be solved administratively, and he’s agued that Congress should take up the issue legislatively.

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