Tax Strategies for Cannabis Companies

If you’ve paid attention to what’s going on in the cannabis industry, you’ll have noticed a number of decisions that have been handed down from the US Tax Court regarding how cannabis companies are improperly managing their tax strategies. Due to 280E, cannabis companies are extremely limited in terms of what they can deduct from their taxes. Because of these limitations, taxes are a much heavier burden on cannabis companies than most typical businesses and start to eat away at profit margins. There are legal ways to properly minimize tax liabilities for cannabis companies, but most unspecialized or untrained accounting professionals aren’t aware of them and can potentially get their clients into tax trouble. Every entity is different and must apply the rules in different ways, using different strategies. Here are a few strategies that we use to support our clients and share with our community of cannabis accounting professionals.

Cannabis Business Structure is Everything

Cannabis businesses are fairly complex, so it is important for cannabis accounting professionals to understand how to properly structure a business based on their goals. These businesses often have multiple entities under one umbrella, such as a grow operation and a retail storefront, for example. Forming a structured multi-entity system will not only promote efficiency, but also will allow the cannabis accounting professionals to maximize deductions from each individual entity as well as the collective whole.

Implementing Section 471 correctly to minimize taxes and protect yourself in case of an audit.

If you’ve had a moment to check out the Harborside decision that the tax court recently handed down, you’ll recognize several mistakes that cannabis CEOs have made, which is why it is extremely important for cannabis businesses to hire knowledgeable professionals. Where Harborside went wrong was incorrectly applying tax strategies to attempt to minimize 280e.. (For more information on the Harborside case, check out the replay of our recent Harborside webinar cannabis accounting case review.)

Understanding when and how to use 471 is crucial, and simple mistakes can be costly if improperly implemented. Simply put, if you own a dispensary, you must use 471-3, and for cultivators, you must use 471-11. There’s more to it than that, and it’s not overly complicated to figure out. But having access to cannabis accounting experts if you are unsure can save you some unneeded headaches if and when your clients are audited. (For more information about 471, check out the replay of our recent Altermeds webinar cannabis accounting case review.)

Non-cannabis divisions of your company (to protect yourself from 280E).

 If you reference the Altermeds case or the Harborside case, you’ll quickly understand how important it is to properly segment non-cannabis and cannabis divisions within your business if you choose to use that method as another way to limit your tax liabilities.  The non-cannabis business has to be profitable, sustainable, and accounted for separately. Intermingling multiple business entities can get very tricky and is where so many cannabis companies get themselves into trouble. (For more information on how to maximize COGS, check out our webinar on COGS and 280E for cannabis accounting.)

Using vertical integration to minimize tax liabilities.

 It is very common for cannabis companies to have more than one entity for a number of reasons. One obvious reason being that they can control supply, lower costs for products, and share overhead in some cases, which would limit the burden of 280E. This can get tricky and complicated, and in order to do this the right way you must have correct intercompany accounting, consolidations, and market transfer pricing.

This gets even more challenging because accounting systems do not cater to the needs of complex cannabis entity structures that encompass different verticals, making it extremely difficult to do proper GAAP accounting for these businesses without the right tools in place. Cannabis entity types are taxed differently and must adhere to different rules. Making this very difficult to properly manage. We use various tools to ensure that we are doing proper cost accounting and can easily manage the different entities via our chart of accounts.

Implementing cannabis tax strategies

Tax strategies can sound great on paper, but putting them into practice is another story. We cannot stress enough how important it is for cannabis companies to hire a qualified and trained cannabis accounting professional to keep everything compliant.

Proper cannabis accounting tools make all of this much easier, as well. Cannabis-specific charts of accounts for various cannabis entities, a flower calendar for growers to properly calculate COGS at the various parts of the grow cycle and to maximize the deductions on those costs, and cost accounting workpapers and templates all will help keep the company organized and will save money and reduce tax liability in the long run.

GAAP and consistent record keeping are crucial for cannabis companies. Don’t wait until the end of year to get your finances in order, as State licensing and federal compliance requires that you must maintain proper records in order to maximize your deductions. Being audit ready and having all of your documentation in place will take the stress and headache out of the process if and when your business is audited.

If you are an accounting or bookkeeping professional and want to learn more about DOPE CFO's Cannabis Accounting 5.0 program, click here.