One comment we hear very often from cannabis business owners after their first year of business is “We did not make much money in our first year of business (or we had a loss), so the taxes are not too complicated. We can either file them ourselves this year or use our regular accountant for one more year and then switch to a cannabis accountant later.” This could not be further from the truth….
The first year of your financials and taxes are extremely important as they set the foundation for future years’ filings. Having them done properly the first time will save you from having to get them redone in the future, which can be both extremely costly and a royal pain when you are trying to run your day-to-day operations. Below are a few of the reasons that your cannabis company’s business taxes may be more complicated than the returns of small businesses you may have prepared for yourself for prior companies owned, and why hiring a qualified cannabis accountant is in your best interest.
Cannabis businesses (and most businesses) are typically funded one of two ways, via debit financing (loans) or through equity financing (investment by individuals or businesses). Due to the limited third-party financing options available to a cannabis business from typical funding sources (commercial banks, SBA), most cannabis companies end up using a combination of debt and equity financing, often coming from multiple investors and sources along with varying terms and agreement details to satisfy each investor’s requirements. Each investor will expect a K1 at the end of the year that reports their share of earning or losses along with financials to not only support the information on the tax returns, but to also show that their investment is being properly represented and accounted for on your balance sheet.
Funds were raised to be spent on various expenses required to start the business and begin operations. These expenses include monies spent on licensing fees, equipment purchase and deployment, property acquisitions, leasehold improvements, salaries, materials and supplies, beginning inventory and everything else that needs to be purchased to begin operations. Every one of these dollars that was spent needs to be accounted for to make sure that all write-offs available to your business are taken. There are IRS rules that dictate that certain items will be depreciated (deducted over a period of years) while others will be expensed in the current year. Not following these rules correctly can potentially cost you deductions now or in the future and can also increase your potential liability under audit.
IRS Code 280E is the biggest reason that you will want someone that is an experienced cannabis accounting specialist preparing your taxes. IRC 280E is the Internal Revenue Service tax code that limits the deductions of a plant-touching cannabis business to only those items that can be classified as Cost of Goods Sold when calculating taxable income for the year. This limitation of deductions can make a business that lost money end up with taxable income. So, while you may have only made a fraction of the revenues you will in a full year and technically lost money, you are still on the hook with a huge tax bill. Therefore, every single deduction that can be justified under IRS Code 280E matters!!
Our goal of joining the cannabis industry was to make sure that cannabis businesses had a competent, qualified source for their accounting and tax needs, since there are so few accountants that specialize and focus on the space. Your tax returns will be not only be used for tax filings with the IRS, but also when applying for loans, renewing certain licenses, attracting investors and for other purposes. MCA Accounting is always available to assist, but if you do not work with us, please make sure that you are having them prepared by someone that is qualified to do so as the cost of having the wrong preparer can be so great.