Cannabis Accounting Highs and Lowsby
Because of IRC §280E limitations, cannabis businesses cannot take any credits or deductions except for the cost of goods sold (COGS). Moreover, due to of the tremendous tax burden, cannabis businesses are in a constant cash crunch and in need of an accounting professional.
Cannabis accounting has become a profitable niche, yet it’s grown increasingly crowded. What do you need to know to get in and get ahead?
Most cannabis start-up businesses run on the investor money, debt and some of them barely hang in there in the hopes of imminent marijuana legalization. Cannabis businesses are ready to pay big money to the CPA that saves them in taxes and that’s what makes this niche so profitable.
What Exactly is the Cannabis Niche?
From an accountant perspective, the cannabis niche is a mixture of cost accounting and C-Corp taxation. Most of the cannabis businesses are formed as C-Corps. With C-Corps, taxes are the obligation of the entities and not their owners.
With partnerships and S-Corps, taxable income gets attached to its owners. Since no one wants to be personally liable for enormous amounts of federal tax, most business owners opt for the C-Corp structure.
The absence of credits and deductions significantly reduces cannabis tax work. If the inventory accounting is done correctly, C-Corp returns are relatively straight forward and this is where cost accounting comes in.
Cannabis start-ups need professionals who know what legally can be squeezed in COGS. As you have already guessed, the cannabis niche is very attractive indeed. You can have a steady year-round accounting income and a very low-pressure tax season. And with cannabis businesses being desperate for tax relief, you can charge premium fees for your work.
Let’s Discuss the Bad Side
First off, if you have not yet been in the cannabis accounting business you are four years late in the game and need to get in line. There are plenty of CPA firms that capitalized on the first-mover advantage in this field, grabbed big clients and charge premium fees.
Even some larger CPA firms also realized the potential profitability and joined the game. There are also special training programs that educate on cannabis cost and tax accounting. Sole practitioners sign up for these trainings left and right.
At this point, there are more cannabis accountants than cannabis businesses and there is intense competition between us. As of this writing, only six states did not have any form of cannabis legality and, moreover, if you are in one of those states where cannabis has recently become legal, I suggest you go door to door and do anything to get your first client.
The cannabis industry is very close-knit and if you get one customer, others will follow. But if you are either in one of the six states where cannabis is still illegal or has been legal for a while, your options are limited. There are no emerging businesses and established cannabis businesses have already built relationships with long-existing accounting firms.
You may say, “There is still the Internet and I can reach potential clients by advertising or promoting my website.” Surprise, surprise, Google and other big search engines forbid advertisements that contain such words as cannabis, marijuana, weed, and so on.
In short, even though you do not produce or sell cannabis, it is very difficult to convince Google that you are only a service provider. I’ve seen ads for a “cannabis lawyer,” but I’ve yet to see an ad for a “cannabis CPA.” I guess lawyers could convince Google and accountants miserably failed.
So, at this point, your only way to promote your cannabis accounting business is to start growing it organically. Have you heard of the saying, “if you want to hide a body, hide it on the second page of Google?” Indeed, we barely go on the second page when looking for something.
Two Ways to Promote Your Cannabis Practice
The first way is to learn SEO theory and do it yourself. And let me tell you, SEO is a very time-consuming thing. It will take most of your time and you will soon forget debits and credits and how financial statements should look. And if you don’t have any cannabis background, what are you going to write about, anyway?
The second way is to hire someone to run a marketing campaign for you. In this scenario, please be ready to part with at least $2,000 a month. Also, several online companies offer bundled services, where they sell ready-to-use accounting websites with some SEO support. Those are modestly priced and seem like a good buy for the money.
Again, you cannot combine two accounting niches on one website. Nowadays, with Google constantly learning, you basically need a website per niche. So, if you have an existing practice, you’ve got to fork over some cash for a separate cannabis website.
Potential Liability Risks
With so many federal taxes at stake, you need to make sure that tax returns are properly prepared and reviewed. The other potential liability is local taxes. For example, in California, there are cultivation, excise, city, and sales and use taxes.
Most of them are charged to the consumer and then remitted by the dispensary or distributor to the local agency, the CDTFA. On average, California cannabis consumers pay 30 percent tax on the price of the product.
Larger dispensaries remit $200K to $300K of local taxes every month. Even a slight error in the dispensary’s point-of-sale system's tax settings will cause a considerable under-collection or over-collection of taxes.
Cannabis point-of-sale systems are imperfect and people inventing them are developers and not tax experts. Some of the POS systems simply do not allow for correct tax settings.
As a result, most of the dispensaries collect the wrong amount of taxes. Should a tax audit happen, any interest and penalties will be blamed on you. So, it is very important to investigate local laws and figure out correct POS tax settings. And of course, don’t forget to up that E&O insurance of yours.
With persistence and some capital input, you can build a cannabis practice from the ground up. Even with the legalization of marijuana, there will still be enough work since cost accounting and local taxes won’t go anywhere. There is a lot of training available, and with more and more states legalizing cannabis, there is a potential for growth for many of us.
Daria Nagal is an Enrolled Agent and Certified Public Accountant in California. She is the founder of Red Eye CPA, an accounting firm specializing in the taxation of small businesses and high net worth individuals. When not reading Accounting Web blogs, she watches way too many reality tv-shows and tries to be a perfect mom.