Can You Avoid the 10% IRS Cash Tax Payment Penalty?

Joseph Bailey, CPA

If you are reading this, you likely have been hit with the infamous 10% "cash penalty" from the IRS. The below information should be very helpful to you, but please note it is for illustration only as the IRS abates penalties on a case-by-case basis. I am not saying your specific penalty/interest will be abated. (Sorry, making sure I don't get cranky emails from people later!)

With the lack of access to banking, many cannabis companies are forced to operate solely in cash, and this includes making tax payments.

Hopefully, you already read my post on how to pay your taxes in cash. If not, take a look. In that post I mentioned that if you are declined by banks, that you should keep those letters. Well, here is why.

When assessed with the IRS 10% cash penalty applied to companies who do not use the required Electronic Federal Tax Payment System (EFTPS) you may be able to have the penalty abated by showing that you are "unbankable". This was the case for Allgreens v. US in which case the cannabis company was able to have the penalties dropped. The IRS then made some changes to their Internal Revenue Manual wherein they provided some guidelines on having the penalty removed.

Okay Joe, great background, now let's get to the meat and potatoes! How do I attempt avoid the 10% IRS cash payment penalty already?! Please note that there was no precedent set in the Allgreens case, these cases are handled on a case-by-case basis, and you may or may not be able to get your penalty removed. But what is the harm? If it doesn't work, you already owed the penalty. If it does work, it can save you thousands of dollars of unnecessary penalty payments.

1. Apply for bank accounts every year. The Feds will allow up to 2 years, but it is in your best interest in a few ways to try and obtain bank accounts regularly. One, you may just get a good bank account and avoid all of this. Two, an annual (or even better semi-annual) attempt at obtaining banking shows a consistent attempt on your part. The IRS doesn't remove this penalty for people who just decide to not try and get an account, so keep that in mind.

2. Have a qualified CPA draft you a letter response to the IRS.

3. SIGN the declaration letter.

4. Send in the signed letter along with any and all documentation showing your attempts to obtain legal banking.

5. Cross your fingers!

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For assistance, email info@B-Cconsulting.com and visit BC Consulting website

How to Convert a California Nonprofit Mutual Benefit Corporations to a For-Profit Corporation under Proposition 64

By Ben Condon, CPA

Executive Summary

Ben Condon, CPA, Founding Partner of BC Consulting discusses the background of California taxation of cannabis companies walks through the steps of converting a California Nonprofit Mutual Benefit Corporation (MBC) to a For-profit General Stock Corporation and the resulting tax entity flexibility. 

Law Prior to 2018 - Non-Profit MBCs Ruled

Medicinal cannabis businesses in California generally operated as nonprofit mutual benefit corporations prior to 2018.

Although these medicinal cannabis businesses formally are incorporated as nonprofit mutual benefit corporations, they do not meet the requirements for income tax exemption described in Internal Revenue Code (IRC) Section 501(c) or California Revenue and Taxation Code (R&TC) Section 23701, Meaning they must file Form 1120, U.S. Corporation Income Tax Return and Form 100, California Corporation Franchise or Income Tax Return.  Additionally, IRC Section 280E applies to these business, which can severely limit the ability to deduct expenses resulting in a higher effective tax rate. However, they can deduct ordinary and necessary business expenses for California purposes.

Nonprofit mutual benefit corporations are limited by their inability to pay dividends and be sold as there is no stock to sell.  Members generally secure their returns via wages and through liquidation of any assets on dissolution.  

Current Law -  Total Legal Entity Freedom and Flexibility

The Adult Use of Marijuana Act (Proposition 64) passed with 57% voter approval and became law on November 9, 2016. The Medicinal and Adult-Use Cannabis Regulation and Safety Act (MAUCRSA), SB 94, passed on June 27, 2017. It established a comprehensive system to control and regulate the cultivation, distribution, transport, storage, manufacturing, processing, and sale of medicinal and adult-use cannabis, and related products.

Businesses operating under these state licenses can choose any form of valid business structure for their business. They are able to operate on a for-profit or not-for-profit basis. They are not eligible for California franchise and income tax exemption, as they do not meet the requirements as described in IRC Section 501(c) or California R&TC Section 23701.  This means California cannabis business now have the flexibility to choose from a variety of legal entities to best suit the needs and tax profiles of their owners.  These entities include, but are not limited to Limited Liability Companies (tax as: Disregarded Single-Member LLC, Partnerships,& C-Corporation), C-Corporation, S-Corporations, and Limited Partnerships. 

Converting a Nonprofit Mutual Benefit Corporation to a Stock Corporation

California allows for the conversion of an Mutual Benefit Corporation (MBC) to a general stock corporation by Restating the articles of incorporation of the nonprofit MBC. There is a $30 associated filing fee.  The restated articles must include: 

1. The name of the Corporation.

2. The following general stock purpose statement: The purpose of the corporation is to engage in any lawful act or activity for which a corporation may be organized under the General Corporation Law of California other than the banking business, the trust company business or the practice of a profession permitted to be incorporated by the California Corporations Code.

3. The number of shares of stock the corporation is allowed to issue.

4. If there are outstanding membership interest, the articles must include a statement of the effect of the restatement on those interests.

Within 90 days of filing the amended articles of incorporation, a Form SI-550 Statement of Information must be filed with the Secretary of State. This form is free to file if filing to meet the 90 day requirement otherwise it is $25 initially and annually thereafter.  If this is the initial SI-550 then the Service of Process information must be included within the amended articles of incorporation in the previous step.  

That's it! Your corporation is now a general for-profit stock corporation which allows for dividends and buying and selling of company stock and allow for more sophisticated legal tax structuring.  

Converting to anything other than a C-Corporation

In order to convert to another legal entity type such as an LLC or LP, the MBC first must convert to a general stock corporation and then convert from there. This is because the conversion of the MBC to a general stock corporation was technically not a conversion, but merely a restatement of its purpose statement and issuance of stock, as it was already a corporation from the beginning, however now with its newly attained for profit status it can convert from corporation to a multitude of other forms. The California Secretary of state website has a large listing of various legal conversion forms. 

Additionally, tax only elections can be made with the IRS via Form 2553 and/or Form 8832 which allow the corporation to be taxed as an S-Corporation, Partnership, or disregarded entity depending on the fact pattern without further legal conversions at the state level.

Please note that the above is provided for illustrative purposes only. For more information, reach out to us at info@b-cconsulting.com 

Importance of Efficient Tax Structuring for Cannabis Companies

By Ben Condon, CPA

Executive Summary

Ben Condon, CPA, Founding Partner of BC Consulting, LLC walks through a hypothetical legal entity structure for a vertically integrated cannabis company and highlights the need for upfront tax structure planning in order to avoid disallowed expenses and plan for future growth, investment and sale. 

One of the first questions every entrepreneur should ask themselves when starting a new business is: "Which type of legal entity should I setup?" In the cannabis industry, you should ask yourself "Which types of legal entities should my businesses organize to maximize tax savings?”  Entities? Yes, plural. 

Most of us are familiar with the common types of entities: Limited Liability Companies (LLC), C-Corporations, S-Corporations, Limited Partnerships, General Partnerships, etc. Due to IRC Sec. 280E, the only avenue for cannabis companies to recover their costs is through costs of goods sold (COGS), therefore it is necessary to employ multiple strategies including varied entity types. Costs such as sales, advertising, and delivery, commonly referred to as "SAD" costs, have no avenue to inventory/COGS.  As a result, careful tax planning is necessary in order to absorb costs into inventory throughout the entire value chain. 

In this post we will walk through an example of a vertically integrated life cannabis company founded by three individuals.  The company will produce, process, distribute, and sell high quality cannabis products in addition to branded apparel and paraphernalia.  The three founders are direct owners of Life Cannabis Company ("Life") which in turns owns three major subsidiaries: Licensed Cannabis Producer ("Producer"), Licensed Cannabis Wholesaler ("Wholesaler"), and Licensed Cannabis Retailer ("Retailer").  

Life's functions will be various, however at no point will it engage in the trade or business of trafficking cannabis. Those functions will be reserved for the underlying licensed cannabis companies. Life will advertise and hold the intellectual property, lease personal and real property, perform management, procurement, supply chain/logistic, and finance services for the underlying companies, and be the holding company and investment conduit. This will allow investment into a single entity and allow founders to easily sell ownership. 

Producer will cultivate cannabis and sell exclusively to wholesaler at an "arm's length" (fair market) price.  Producer's non-cannabis supplies will be purchased from Life with a procurement fee added, Producer and each other underlying company will lease it's property from Life (whether or not Life owns its property or leases it from a 3rd party and subleases to Producer). 

Wholesaler will purchased branded packaging from Life and then package cannabis purchased from Producer with this packaging.  This allows Life, a non-cannabis entity, to deduct its advertising as regular cost of doing business, and also categorizes the cost to Wholesaler as part of inventory/COGS. Wholesaler will then sell the branded and packaged inventory to Retailer and other 3rd party licensed cannabis retailers.

Retailer's store will be more than a cannabis store, it will be an experience of the lifestyle portrayed by Life's branding. Only a small portion of Retailer's square footage will be dedicated to cannabis products, while the majority of the store will house non-cannabis, Life branded items. This will minimize the non-deductible expenses that are deemed sales/trafficking related and allow for a bifurcation of expenses between non-cannabis and cannabis business lines. The non-cannabis business line will be able to deduct expenses similar to any other business, further reducing the impact of Sec. 280E. (See CHAMPS v. Commissioner) 

One important thing to highlight is that this structure allows for quick expansion as the intellectual property can be licensed and non-cannabis branded packaging can be sold across state lines to either 3rd party affiliates or to wholly owned licensed cannabis companies entities yet to be formed regardless of state.

The C-corp in this structure is necessary in order to create regarded tax partnerships at the cannabis business level in order to be able to have 3rd party transfer pricing. Without this, each entity would be a Single Member LLC under Life, and would be treated as divisions of Life; the operations of Producer, Wholesaler, and Retailer would consolidated and reported with Life's tax return. The inter-company transactions would be eliminated resulting in an increased Sec. 280E exposure.

In this scenario, we would advise that Life either become either a C-corp or S-corp in order to avoid Self-employment tax. This choice would not be cut and dry and would depend on various factors such as the state, tax situations of the individual owners, and fringe benefit desires of the owners among others. 

In summary, there are many factors that require careful consideration, and the sooner the issue is addressed, the more opportunities there are to avoid Sec. 280E disallowed expenses and plan for future growth. 

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For assistance, email info@B-Cconsulting.com and visit BC Consulting website

How Do I Pay My Tax Without A Bank Account?

So you have already done the impossible... you started a cannabis company, it is operating, AND it is making a tax profit. First off, congrats!

Now, how exactly do you pay that stinking tax bill? You don't have a bank account, and you can't just show up with a bag of cash and pay your tax right? Wrong! You not only can do it that way, you will have to do it that way without a bank account unless you are planning on going to 30 post offices to get 100 separate $1,000 money orders to pay that $100,000 tax bill. Doesn't sound like something you will do? That's because you won't, so let's get to reality here.

Remember that "taxes" aren't just one government body, we are dealing with multiple states with varying issues, tax rates (some have no income tax at all). Even though below we will talk about the Federal side of things (since it applies to you all), do not forget that you need to do this same thing for your State and Local taxes, as applicable in your jurisdiction.

1. Go online (https://apps.irs.gov/app/officeLocator/index.jsp) and find your nearest IRS Taxpayer Assistance Center (TAC). Not all TAC's are created equal, as some will not accept cash payments. When I search 97267 I get the below result

Find the right IRS Taxpayer Assistance Center (TAC)

2. Once I click to make an appointment, I am taken to a list of close centers, where I am then able to see which services they provide. This is where you can make sure they take cash payments.

Finding Services Provided by the local IRS TAC

WAIT! Look at this below, this TAC doesn't accept cash payments, good thing we checked!

Good thing we didn't just drive over there!

Good thing the Portland, OR IRS TAC accepts cash payments!

Perfect, they take cash so we will make our appointment here

Once complete, you will have an appropriate appointment setup at the correct center where you can pay your IRS tax balance.

Tips for your meeting:

1. Show up on time

2. Do NOT try to get cute and pay in pennies or they will turn you away (yes they can say no to your money).

3. You are going to be in a Federal building, leave your firearms, cannabis, or anything else at home or you may be in a Federal building for a lot longer.

4. ALWAYS walk out with a receipt showing the payment as being applied to your correct account and the correct tax year!

10 Questions to ask before hiring a CPA in the cannabis industry

Joseph Bailey, CPA

You have likely tried to google "280E CPA", "cannabis CPA", “cannabis tax” etc. and found that your options seem to be somehow limitless and horribly limited at the same time. 

Whether your State is legal for adult use (such as Oregon, Washington, Alaska, California, Colorado, etc.) or medically legal (29 States), the tax implications remain the same, and finding a good CPA can be daunting. Just getting to a good list of questions to ask a cannabis CPA can be impossible. 

We have been in the cannabis industry for years, helped hundreds and hundreds of businesses, and often are asked about what makes for a "good" cannabis focused CPA. 

The list below, while not exhaustive, should help point you in the right direction and at least weed out (pun certainly intended) folks who simply will not meet basic requirements. 

1. What certifications do you hold? 

A lot of the folks entering the industry are doing so out of lack of options versus passion for the industry. As such, does your CPA have an accounting degree, CPA (certified public accountant) certification, EA (enrolled agents), MBA (Master of Business Admin)? Different certifications can provide a certain level of assurance as to expected quality of tax return preparation, and highlights more importantly what someone is NOT certified to do. Make sure your CPA/EA/etc. has the background and certifications you need. 

Beyond this, it is good to check on where someone is licensed, then actually go to that State Accountancy Board website and look up that person's license. From there you will have a good view as to whether they have been disciplined by an Accountancy Board currently or in the past.

2. How many years’ experience do you have? 

This should be obvious, but in this industry, you really don't want your CPA to be learning their craft on your business. There is a GIANT amount of learning curve that CPA's undergo in the first 5 years of practice, let alone the first few years in cannabis. This is even more so when a CPA can achieve employment with a "Big 4" firm (we will discuss this in a later point).

3. What industries have you worked in?

Outside of understanding cannabis specific issues and practices, having a CPA with a varied background will be quite beneficial as they will have insights that someone who has been wedged in one industry for 20 years just won't have. Experience in retail, manufacturing, agriculture industries is an obvious benefit as well. 

4. Have you worked internally for any cannabis companies?

This is a bit of a BONUS style question. You will be able to find CPA's who do not have operational/inside experience working within a cannabis company, that will still be able to help you achieve great success. But if you have two CPA's that are 100% matched against each other, wherein one has managed internally, I would likely utilize the services of the CPA with internal experience as they will have seen things that someone on the outside looking in will not have had exposure from. 

5. Why did you join the industry?

At BCC, we are here to help an underrepresented class of businesses and owners, support a community and culture that we love, and we have a special set of skills and background that can and have greatly impacted business owners. 

Now, you would think a CPA in this industry would be prepared to answer this question, but you will be surprised by the answer you get from a lot of people. If your CPA isn't PASSIONATE about this industry, they will at some point place their cannabis clients at the bottom of the pile. Why? There are just easier ways to make money as a CPA than working with cannabis companies. At this current level of maturity of the industry, there is a lot of hand holding, revisions, and messy clean up that takes place within these companies.

6. Do you use IRC 263A to allocate mixed service costs?

This will not mean much to you now, but it is a VERY important part of limiting IRC 280E impact on cannabis companies. If your CPA is not using 263A, you are overpaying on taxes, plain and simple. 

7. How do you deliver sensitive information to clients?

CPA's tend to be behind the times, which means they are still handling a lot of business via paper, as well as sending a lot of personal information through email. You want to work with someone that can operate paperless (saves time and money) and utilizes secure servers and means of delivering info to you. There is already plenty of risk in this industry, you really don't want to have to worry about sensitive information being stolen electronically due to lax data security protocols. 

8. Have you or any of your staff ever been convicted of a non-traffic related crime? Was that crime directly related to your work?

Do you really need an explanation here? The public tends to think that if someone has a CPA license that it means they have never been in trouble... think again. There are plenty of FELONS that are CPA's, you should probably make sure that your CPA isn't one of them. "Street Cred" isn't something your CPA needs.

9. Do you have experience working in public accounting? Was any of that experience at the "Big 4" level?

A CPA that has only ever worked internally at a company will not have had the opportunity to work on the amount and varying type of issues that someone in public accounting will have seen. Now, that experience may be EXACTLY what you need, but usually that is only the case when someone is looking to hire a CFO, not a CPA. 

Discussing the Big 4 is usually where CPA's without Big 4 experience get upset. Please note, I am not saying that being a Big 4 accounting firm alumnus makes you better than someone without that experience. Remember "Big 4" is simply a reference to the biggest four CPA firms in the US. PwC, Ernst Young, Deloitte, and KPMG. 

When a CPA has a background in Big 4, especially for an extended number of years, that person has been through ten times the number of situations that someone from a small firm has seen. This isn't to say that they aren't as good of a CPA, I am simply pointing out that your chances of finding a high-level CPA are greater with a Big 4 accountant as they have been subjected to a large amount of high level, high stress work with very high expectations of completion and quality. Again, Big 4 experience doesn't mean the CPA will be great, but I personally find that the chances of hiring a good CPA go up when looking at Big 4 candidates versus non-Big 4 candidates (all other things equal of course)

10. Have you successfully defended any clients in the face of an IRS audit?

This will simply help put the cherry on top of the interview as it will get to the heart of the CPA candidate's experience level. "Pump and dump" firms exist all over the place, including the cannabis industry. They are attentive when accepting retainers, attentive to get your e-file form signed, then you never hear from them again. Preparing a return is one thing, defending it under IRS audit is another matter altogether. If you are looking for a CPA to partner with your company for success, having even minor tax audit experience will be beneficial.

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For assistance, email info@B-Cconsulting.com and visit BC Consulting website

How do I open a cannabis bank account?

Okay, so there is no central bank doing business with cannabis, but that doesn't mean it is 

the end of our search.

Your best course of action is to have you are looking into, though I will be honest and just let you know your best luck is at a credit union. When setting appointments or speaking with someone live, always be honest about what your company does, really does.

The banking question eventually (usually) turns into ... "Can I just open a bank account and not tell them I am in cannabis?" While you may be able to obtain a bank account through omission or outright lying, we advise you do not do this. Eventually, your clandestine account will be shutdown, and it usually happens at the absolute worst possible time. Note that the shutting down of your bank account may also include a temporary freezing of the funds in the account which can devastate already cash strapped businesses.

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Steps to get a cannabis bank account

Route 1

Ask around to others in the industry in your State. In Oregon, for instance MAPS Credit Union and Salal Credit Union both do direct, transparent banking business with the cannabis industry. This varies greatly state by state, so getting recommendations from others in your position is always the best starting point.

If you can find "friendly banks/credit unions", call first and set an appointment and ask them what documents need to be provided, which applications should be completed, etc.

When you show up and apply, you must show up looking and acting the part of a business owner, with all documents and applications completed fully and correctly. Sound like a stupid point to make? Of course you will do that right?! From my experience, wrong! People quite often go the lazy approach and put the onus on the bank to let them know how to do something.

Let me tell you, you are not the only person looking to get that cannabis account. You are not a beautiful snowflake to them, your business being social conscious doesn't matter, and quite frankly they likely have a large backlog of applicants to go through and approve/deny. If there are 10 other companies who did everything perfect and then there is you with half the documents completed, you are absolutely guaranteed to be pushed to the bottom of the list. With waiting times, that could extend your wait time by months.

Ensure you understand the fees being charged, and what information you will be required to provide to the bank on a regular basis, before signing any documents to setup the account(s). Note that there will likely be a waiting period while you and your business are vetted by the bank/credit union.

Once the account is received, don't start celebrating too early! A LOT of cannabis companies lose their bank accounts at cannabis friendly institutions. Why? Because they do not properly maintain their data, documents, etc. and are eventually given the boot.

Route 2 (most common)

If you are approaching banks on a branch-by-branch basis, gather your organizational documents, tax returns (if any), your books, your seed-to-sale reports (where applicable), and make an appointment to speak with the manager of the specific bank or credit union. When making the appointment, be crystal clear why you are making the appointment. There is no point in being coy, only to find out you have wasted your time, travel, etc. when they tell you right away they will not work with cannabis companies.

Show up to your appointment in a suit, have your documentation in order, and be ready to answer any and all questions posed.

If a question is asked and you do not know the answer, tell them "good question, I am not positive on the answer, I will make sure I gather this info and get it to you ASAP". The worst thing you can do is make things up, at some point they are going to know, don't waste anyone's time.

Please do not get discouraged if and when a bank says "no" to you, it will happen at least a few times. But once you do secure the relationship, you will know you have secured open, transparent banking, with an institution that is willing to work through issues with you.

If the bank is going to decline to offer you banking, ask them to provide the declination via letter. 

This is a real **Pro tip**, saving those letters can save you the 10% cash penalty the IRS charges corporations who pay in cash. I wrote more about that in another blog post. 

- Joseph Bailey, CPA

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For assistance, email info@B-Cconsulting.com and visit BC Consulting website