Proposition 203 – Arizona Ponders Allowing Nonprofit Medical Marijuana Dispensaries

Whoever said nonprofit law was dull has not spent any time in my office lately. We have been getting a steady stream of calls about forming new nonprofits to operate medical marijuana dispensaries in the event Proposition 203 passes.

Proposition 203 authorizes a limited number of medical marijuana dispensaries to operate in Arizona but requires that they be operated on a not-for-profit basis.  However, Proposition 203 does not require these not-for-profit dispensaries to apply for tax-exempt status nor are they required to incorporate.

Incorporating a medical marijuana dispensary as an Arizona nonprofit corporation has two advantages. First, it provides a layer of protection between the directors of the corporation and the organization. Secondly, it helps to establish that the dispensary is operated on a purely not-for-profit basis.

In California, regulators have raided dispensaries’ business records in an effort to prove that they are not being operated on a nonprofit basis. While nonprofits can pay reasonable compensation for goods and services, they generally cannot distribute profits to their members or directors. Instead, all profits must be reinvested into the corporation in support of its mission. Still, if the nonprofit dispensaries are not required to apply for tax-exempt status, they will not be subject to the excess benefit transaction and private inurement rules that serve to limit tax-exempt organization’s compensation to reasonable levels making the “nonprofit” requirement ambiguous at best.

In addition to incorporating as nonprofit corporations, would be dispensaries will want to take extra care in documenting their business expenses and compensation decisions to eliminate any question regarding whether profits are being distributed to insiders.