Taxpayers Fail to Prove Expenses of Medical Marijuana Business Deductible; Burden of Proof Does Not Violate Fifth Amendment Privilege (3/2/19)

In Feinberg v. Commissioner, 2019 U.S. App. LEXIS 5618 (10th Cir. 2019), here, the taxpayers were shareholders in an LLC selling medical marijuana.  Their sales were legal under state law, but illegal under federal law.  The issue was whether they bore the burden of proving that they were entitled to deductions related to the business.  Section 280E provides:

No deduction or credit shall be allowed for any amount paid or incurred during the taxable year in carrying on any trade or business if such trade or business (or the activities which comprise such trade or business) consists of trafficking in controlled substances (within the meaning of schedule I and II of the Controlled Substances Act) which is prohibited by Federal law or the law of any State in which such trade or business is conducted.

The Court held that the taxpayers bore the burden of establish their entitlement to the deductions over the taxpayers objection that the assignment of the burden violated their Fifth Amendment privilege.  (There were some other procedures discussed such as substantiation burden shifted to the IRS because new matter, but this is the point I want to address.)

Here is the key part of the opinion (cleaned up and footnotes omitted)

The Taxpayers fail to explain how requiring them to bear the burden of proving the IRS erred in applying § 280E to calculate their civil tax liability is a form of compulsion equivalent to a statute that imposes criminal liability for failing to provide information subjecting the party to liability under another criminal statute. Here, the Taxpayers must choose between providing evidence that they are not engaged in the trafficking of a controlled substance or forgoing the tax deductions available by the grace of Congress. In the cases cited by the Taxpayers, the petitioners were faced with a choice of whether to be prosecuted criminally because they did not provide the information, or to be prosecuted criminally because they did. The circumstances are easily distinguishable. 

Nor can we adopt the Taxpayers' position without running afoul of Supreme Court precedent squarely rejecting the notion that a possible failure of proof on an issue where the defendant had the burden of proof is a form of compulsion which requires that the burden be shifted from the defendant's shoulders to that of the government. Such a concept would convert the Fifth Amendment privilege from the shield against compulsory self-incrimination which it was intended to be into a sword whereby a claimant asserting the privilege would be freed from adducing proof in support of a burden which would otherwise have been his. The Fifth Amendment privilege has never been thought to be in itself a substitute for evidence that would assist in meeting a burden of production.

To be sure, "by invoking the privilege and refusing to produce the materials that might support their deductions the Taxpayers no doubt made their task of proving the IRS erred in denying their deductions that much harder. But "a party who asserts the privilege against self-incrimination must bear the consequences of the lack of evidence. Rylander [United States v. Rylander, 460 U.S. 752 (1983)] teaches that the Taxpayers' possible failure of proof on an issue on which they bear the burden is not compulsion for purposes of the Fifth Amendment. Therefore, we reject the Taxpayers' contention that bearing the burden of proving the IRS erred in rejecting THC's business deduction under § 280E violated the Taxpayers' Fifth Amendment privilege.

The Court held that, since the taxpayers bore the burden of proof without the cover of the Fifth Amendment, the failure of proof required that they lose.