When Colorado legalized cannabis back in 2012, many people thought federal legalization was right around the corner. Unfortunately, in 2022, cannabis companies still face unfair tax burdens on the estimated $27 billion in revenue they bring in. That makes end-of-year tax planning difficult for cannabis businesses.
With the end of 2022 swiftly approaching, along comes five of the least-favorite words for any business owner (especially in the cannabis industry): End-of-Year tax planning.
As always, our advice is to proactively plan for how to best manage your tax burden by understanding tax compliance laws—and the consequences for not following them. With our guidance, you can make the most of the limited deductions and tax-saving opportunities allowed for cannabis businesses.
New Tax Laws Affecting Tax Prep in 2022
Congress passed the Inflation Reduction Act (IRA) earlier this year. While most IRA changes aren’t effective until at least 2023, there are a few notable changes to some energy credits to be aware of while tax planning. This includes credit for electricity produced from renewable resources.
Congress also passed a major tax bill in late 2021 called the Infrastructure and Investment Jobs Act (IIJA). Some key tax provisions found in the IIJA include retroactive termination of the employee retention credit, and updated information reporting for all digital assets (such as cryptocurrencies).
Additionally, the IIJA contains tax provisions covering disaster relief, capital contributions to public utilities, excise taxes on bulk chemical purchases, and pension interest rates. However, except in special circumstances, these provisions generally will not apply to cannabis companies.
Retroactive Termination of Employee Retention Credit
If you were counting on the Employee Retention Credit to deduct up to $26,000 per employee this year, you’re unfortunately out of luck—and for some cannabis businesses, you may even have to pay some of it back.
Though originally intended to be lawful through 2021, the IIJA retroactively eliminated this deduction as of October 1st, 2021. That means if you claimed this tax deduction for payroll periods after September 30, 2021, you will need to repay ERC funds received for those months.
Digital Asset Reporting for Cannabis Businesses
Until cryptocurrencies began crashing earlier this year, some cannabis companies were using crypto as a work-around for banking regulations. For those companies, and any companies with crypto transactions higher than $10,000, new IIJA rules mean more stringent reporting requirements.
Reducing Your Cannabis Company’s Tax Burden
Other than the tax provisions noted above, 2022’s taxes will be much the same as other years. Here are some tips and tricks we use to save our clients money while doing their annual tax planning.
280E Workarounds While Tax Planning for Cannabis Businesses
As any established cannabis entrepreneur already knows, Section 280E of the IRS tax code prevents cannabis businesses from deducting common business expenses and using applicable tax credits to determine their taxable income. If you’re not familiar, here’s a quick visual breakdown:
And because of 280E, cannabis businesses operating at a loss could still owe crippling federal income taxes.
That’s where Section 471 comes into play.
Tax planning for cannabis businesses is complicated because they can’t deduct common expenses such as advertising and bank fees from their taxable income. Instead, they can only deduct their Cost of Goods Sold (COGS).
For cannabis distribution businesses, such as dispensaries, COGS typically only applies to what the company pays a producer for their product, and the cost of transporting and storing it.
COGS for cannabis producers has a little more wiggle room. Producers can deduct expenses including materials, labor, insurance, some overhead, utilities, and other costs necessary to produce cannabis.
Utilizing 471 can significantly increase the amount of overhead expenses you can include in COGS. You should consult with your accountant about how to include your overhead expenses.
Additionally, if you’re anticipating profits this year, speak to your accountant about purchases deductible under 280E you could make between now and the end of the year to reduce your tax burden.
Reconcile Your Financials
While reconciling your financial statements quarterly is fine, doing so monthly is ideal. This will not only help you stay in compliance, it’ll also help to maximize your COGS eligible expenses and catch tax deductions you might otherwise forget.
And, since this is the end of the year, there is no better time to get caught up on reconciling and creating a plan for staying caught up monthly moving forward.
Check for Easily-Forgotten Tax Breaks
Many of our clients forget to take advantage of accelerated depreciation on capital expenditures, as well as pre-paying January deductible expenses in December. We also recommend our clients deplete or reduce their inventory before the year’s end so it can apply towards your COGS deductions.
Plan for Cannabis Business Regulatory Expenses
We see it year after year: cannabis business owners who are otherwise on top of their financials, but forget some of their regulatory requirements and end up owing penalties.
For starters, make sure you’ve registered for EFTPS if it’s required for your business structure. All C corps and any company that runs payroll should have this account—and time is of the essence, as setting up this account could take up to 2 weeks.
You’ll also want to remember to calculate and pay your 4th quarter estimated tax payment. This is easily forgotten amidst the other end-of-year tasks, but you will owe penalties if this is not done on time.
Our Thoughts on 2022 Federal Taxes
Despite being faced with yet another year of undue tax burdens placed on cannabis businesses, we’re still optimistic about the future of the cannabis industry. Though federal legalization is not currently being considered in an official capacity, 68% of the American public believes it should be—and that number grows higher each year. With that level of support, it’s only a matter of time before the same deductions and tax savings are available to all businesses across the country.
In the meantime, a little planning and forethought goes a long way to increasing your bottom line and keeping your fair share of revenue in your own pocket.
If you have any questions about how you can reduce your tax burden, or you’re ready to hand your bookkeeping and tax management over to cannabis professionals, schedule your free consultation or call 1-800-674-9050.