california Archives - Green Market Report

Sean HockingSean HockingNovember 5, 2019
Screen-Shot-2019-11-06-at-12.39.28-pm-150x150-2-1.png

15min1220
If you wish to re-publish this story please do so with the following accreditation
AUTHOR:  aBIZinaBOX Inc. CPAs – Jordan S. Zoot, CPA
PUBLISHER:  CANNABIS LAW REPORT

A few days ago, we published a short note that described how a Cannabis Cooperative Association (“CCA”) could be utilized to circumvent the confiscatory nature of Internal Revenue Code (“IRC”) §280E[i]. Several our readers, including some purported experts, advised us that our suggestion would not work for them because the business organization with which they were involved pre-dated the enabling legislation for CCAs.

Read the law! The California Legislature anticipated this problem. The Legislature was aware many collectives and cooperatives were organized based on Proposition 215 long before a glimmer of hope for legalization even existed in fantasies regarding the future. Beginning even before Proposition 215 was passed, collectives and cooperatives were organized under various provisions of California law for the cultivation and underground distribution of marijuana. Many such groups formed a Nonprofit Mutual Benefit Corporation. Most did little else in the way of the creation of formalizing an organizational structure. There were, of course, some significant exceptions in which a group of individuals established formalized organizations.

Regardless of the extent to which an existing cannabis collective or cooperative has an established legal structure and formal documentation, the California Legislature created an avenue for such organizations to become CCAs. The enabling legislation for CCAs is found in Chapter 22, Title 10, of the Business and Professions Code (“B&P”). Articles 1-10 of Chapter 22 provide the substantive legislation for CCAs. The Legislature included Article 11 to specifically address the issue of existing cannabis collectives and cooperatives that would benefit from a conversion into a CCA[ii].

 

Article 11 provides in relevant part:

“26231. A corporation that is organized or existing pursuant to any law . . . may be brought under the provisions of this chapter by amending its articles of incorporation, in the manner that is prescribed by the general corporation laws, to conform to this chapter. If a corporation amends its articles of incorporation to conform to this chapter, it shall be deemed to be organized and existing pursuant to, and entitled to the benefit of, and subject to this chapter for all purposes and as fully as though it had been originally organized pursuant to this chapter.

“26231.1. Articles of incorporation shall be deemed to conform to this chapter within the meaning of Section 26231 if it clearly appears from the articles of incorporation that the corporation desires to be subject to, and to be organized, exist, and function pursuant to this chapter. [Emphasis added.]

“26231.2. If the amended articles conform, as provided in Section 26231.1, provisions in the articles of incorporation that appeared in the original articles or some previous amended articles, are ineffective if, and to the extent that, they are inapplicable to, or inconsistent with, this chapter.”

It takes far more, of course than an amendment to Articles of Incorporation to convert a collective or cooperative into a duly organized and operating CCA. A CCA that engages in commercial cannabis activity pursuant to the Medical and Adult-Use Cannabis Regulation and Safety Act (“MAUCRSA”) is a special form of corporation expressly created to engage in commercial cannabis activity in California’s cannabis industry through the equivalent of an agricultural cooperative. A CCA is a sophisticated form of an incorporated entity. A CCA is subject to California’s general corporate laws as well as the special provisions of B&P §§26220-26231.2. The combination of these two bodies of law creates operational business advantages for CCAs. The special provisions of law set forth in B&P §§26220-26231.2 trump the general corporate law in the event of a conflict.

A CCA is also subject to special rules for California and federal income tax purposes. A CCA files a return for federal income tax purposes as a cooperative pursuant to Subchapter T[iii]. A CCA files similarly for California income tax purposes. These special filing rules provide income tax advantages for CCAs.

All existing collectives and cooperatives should not be converted into CCAs. Proposition 64 preserved all the rights granted to Californians under Proposition 215. There will be a place in California for unlicensed, unregulated medical collectives for the foreseeable future. The cottage industry of unlicensed, closed-loop collectives is entitled to continue to operate as not-for-profit collectives. Such organizations cannot engage in commercial cannabis activity.

There will also be a place in California for licensed medical collectives and cooperatives for the foreseeable future. Those Proposition 215 collectives and cooperatives that intend to engage in commercial cannabis activity must be licensed. The foundation for a Proposition 215 medical collective is not consistent with commercial cannabis activity. Any such an organization should consider conversion into a CCA. There is no prohibition against a CCA operating as a not-for-profit organization that is engaged in commercial cannabis activity for the benefit of both its cultivator members as well as its consumer members. Any such a collective or cooperative, however it is presently organized, will have a financial advantage over any conventional business structure if the organization properly converts into a CCA.

The special treatment of CCAs for income tax purposes makes these special corporations financially more efficient than conventional business structures for the conduct of cannabis business in California. A CCA also has operational advantages over conventional business structures in connection with the conduct of commercial cannabis activity. The conduct of commercial cannabis activity through a CCA requires experienced legal counsel. Of even greater importance, accounting and tax-reporting advice from a CPA firm are essential to the successful conduct of commercial cannabis activity through a CCA.

A CCA that does nothing more than act as a cooperative marketing representative provides a valuable service for its member growers. In this regard, an organization that acts as a broker must be licensed as a distributor. Marketing representation and sales representation are not the same things, although they are frequently conflated. Licensing is required for representation in connection with sales. The use of a CCA solely for marketing merely scratches the surface of the benefits such an organization can provide with respect to commercial cannabis activity. As we pointed out in the article referenced above, even for a modest cannabis business operation the tax savings that can be secured using a CCA can exceed $1.0M per year.

A CCA that engages in cannabis business activities beyond acting as a cooperative marketing representative, for example operating a wholly-owned cannabis distributor, requires a capable business organization. Such a business operation necessarily requires sophisticated operational and financial record-keeping systems and procedures in order to comply with the regulatory requirements of the California Dept. of Tax and Fee Administration [“CDTFA”] Bureau of Cannabis Control [“BCC”] and other cannabis regulatory agencies as well as the multiple tax filing requirements for California cannabis businesses.

A CCA that operates a wholly-owned cannabis distributor should establish an accrual method of accounting for federal income tax purposes. A number of additional record-keeping benefits, as well as significant tax-saving benefits, will flow from the use of an accrual method of accounting for a CCA engaged in commercial cannabis activity. The establishment of an accrual basis system of accounting for a distributor engaged in business in California’s cannabis industry requires the services of an experienced CPA.

For the gamblers among our readers, the use of a CCA for the conduct of business in California’s cannabis industry is the equivalent of playing with “house” money. For the investors among our readers, the use of a CCA for the conduct of business in California’s cannabis industry is the equivalent of an “all up-side, no down-side” financial arrangement.

Sources & Footnotes

[i] See IRC Sec 280E – Escrows

[ii] See CCA’s Good or Better, California Cannabis Collective the Sky Is Falling and Dead – Alive – Comatose

[iii] IRC Secs. 1381-1383


Sean HockingSean HockingNovember 5, 2019
download-9-150x150-2-1.jpg

17min2320
If you wish to re-publish this story please do so with the following accreditation
AUTHOR:  aBIZinaBOX Inc. CPAs – Jordan S. Zoot, CPA
PUBLISHER:  CANNABIS LAW REPORT

Corporate Transparency Update. The focus of this website has been on the legal cannabis industry in California. However, many of our clients and regular readers are aware that our practice also focuses on:

  • Taxation and Transactional Consulting for pass-thru entities, [limited liability companies [“LLC’s], partnerships and S Corporations
  • Alternative Asset and Debt Hedge Funds and Private Equity
  • US Title 31 – anti-money laundering [“AML”] provisions and virtual currency
  • US Title 26 [“IRC”] – IRS practices and procedures relating to civil and criminal tax controversies

We have written about FinCEN’s Cannabis Industry Policy[1], AML anti-structuring policy[2], and the FDIC’s initial efforts at beneficial ownership, transparency for LLC’s acquiring residential property in major markets[3] and the application to the California cannabis industry[4].

HR 2513 – Corporate Transparency Act

On October 23, 2019, the House passed H.R. 2513. H.R. 2513 is a two-part Bill. Division A is the Corporate Transparency Act, or CTA[5]. If enacted, the CTA would require certain, defined U.S. companies to report identifying information regarding their beneficial owners to the Treasury Department – so that such information would be available to both the government and financial institutions carrying out their own AML duties.

The CTA:

  • Requires certain, defined corporations and limited liability companies (see below) to disclose their Beneficial Owners [“BOs”] to FinCEN at the time the company is formed.
  • Establishes minimum BO disclosure requirements, including the BOs’ name, date of birth, current address, and driver’s license or non-expired passport number.
  • Requires covered companies to file annually with FinCEN a list of its current BOs, and a list of any changes in BOs that occurred during the previous year.
  • Imposes civil and criminal penalties for persons who willfully submit false or fraudulent BO information, or who knowingly fail to provide complete or updated BO information.
  • The key provision of the CTA is its definition of a “BO.” With certain exceptions, noted below, the CTA broadly defines a “beneficial owner” as a “natural person who, directly or indirectly, through any contract, arrangement, understanding, relationship, or otherwise –”
  • exercises substantial control over a corporation or limited liability company;
  • owns 25 percent or more of the equity interests of a corporation or limited liability company; or
  • receives substantial economic benefits[6] from the assets of a corporation or limited liability company.

At this point, our regular readers should ask why we are writing about federal legislation that is perhaps indirectly related to individuals and entities involved in California’s cannabis industry. The CTA provides for a number of exemptions from the BO disclosure requirements which will be discussed in a separate article.

The CTA will have little direct impact on the owners of “plant touching” cannabis businesses. However, it will have significant application to the owners and purchasers of residential and commercial real estate that may be acquired as an investment of the earning of cannabis industry businesses, which will certainly be exacerbated if the proceeds of cannabis activity originate in the “black market”.

It is also quite possible that the “cash-out” of certain cannabis investments could wind up being invested in real estate or operating businesses that are subject to the CTA.

H.R. 2513 contains another section – “Division B” – entitled the “Counter Act of 2019.” The acronym “COUNTER” stands for “Coordinating Oversight, Upgrading and Innovating Technology, and Examiner Reform.” Division B stretches for 63 pages. It is almost twice as long as the CTA. The COUNTER Act of 2019 represents a grab-bag of detailed provisions relating to BSA/AML reforms which previously had been set forth in a proposed and inelegantly-named bill, “To make reforms to the Federal Bank Secrecy Act and anti-money laundering laws, and for other purposes” (on which we previously blogged, here). The COUNTER Act of 2019 has 35 different sections, including a whistleblower provision; a provision including “dealers in antiquities” in the definition of a “financial institution” covered by the BSA; and many other provisions pertaining to information sharing, resource sharing, and technological innovation.

 

FATF – Best Practices for Beneficial Ownership

The Financial Action Task Force (“FATF”), an international and intergovernmental AML watchdog group, has issued a document entitled “Best Practices on Beneficial Ownership for Legal Persons,” (“Best Practices Guidance”) on November 5, 2019[7] which urges countries to use multiple methods to identify accurately and timely the beneficial owners of legal entities. This document also describes some thoughtful recommendations.

 

The FAFT Best Practices Guidance represents an evaluation of the approaches of the member countries to the collection and maintenance of beneficial ownership information, including specific recommendations. The FATF Guidance identifies six challenges to tracking beneficial ownership[8]

 

Sources Footnotes

[1]See FIN-2014-G001

[2]See Structuring Transactions to Evade and 31 USC 5324,

[3] Much of the initiative in this area was inspired by a series of articles in the New York Times – Anonymous Owner, L.L.C.: Why It Has Become So Easy to Hide in the Housing Market. The issue was discussed extensively in an article in the June 20, 2019 edition of Ballard Spahr LLP’s Money Laundering Watch newsletter – Lawmakers Renew Effort to Overhaul AML Laws, Including Greater Beneficial Ownership Transparency and in Congressional discussion draft of The Improving Laundering Laws and Increasing Comprehensive Information Tracking of Criminal Activity in Shell Holdings [“Illicit Cash”] Act.

[4] Transactions Involving Changes in Ownership, Financial Interests and Entities

[5] The purpose of the CTA is described as,“To ensure that persons who form corporations or limited liability companies in the United States disclose the beneficial owners of those corporations or limited liability companies, in order to prevent wrongdoers from exploiting United States corporations and limited liability companies for criminal gain, to assist law enforcement in detecting, preventing, and punishing terrorism, money laundering, and other misconduct involving United States corporations and limited liability companies, and for other purposes”.

[6] The “substantial economic benefits” prong under the CTA’s definition of a “beneficial owner” represents an expansion of the definition of “beneficial owner” imposed by FinCEN’s existing BO regulation, which contains only the two “control” and “ownership” provisions. How these competing definitions of the same key term can be reconciled is not clear.  It is also not clear is how financial institutions will address checking the beneficial ownership information that they have collected from their customers under the BO regulation against a database that presumably will include different and more expansive information.

[7] FATF previously released its Guidance on Transparency and Beneficial Ownership in October 2014. The earlier FATF Guidance described steps countries should take to prevent the misuse of legal persons for ML/TF. The FATF did not specify the mechanisms that countries should utilize for the collection of beneficial ownership information. Rather FATF described three options for facilitating the cooperation of companies with the competent authorities and ensuring the availability of beneficial ownership information on companies. The three options are:

“Registry Approach – this approach requires company registries to obtain and hold up-to-date information on the companies’ beneficial ownership. This information is made publicly available and would facilitate access by financial institutions, designated non-financial businesses and professions (DNFBPs) and other competent authorities.

Company Approach – under this approach, companies are required to obtain and hold up-to-date information on the companies’ beneficial ownership or companies to take reasonable measures to obtain and hold up-to-date information on the companies’ beneficial ownership.

Existing Information Approach – under this approach, existing BO information is gathered from existing sources, including: (i) information obtained by FIs and/or DNFBPs; (ii) information held by other competent authorities on the legal and BO of companies; (iii) information held by the company as required; and (iv) available information on companies listed on a stock exchange, where disclosure requirements ensure adequate transparency of beneficial ownership.”

[8] The challenges identified were

“Lack of adequate risk assessment concerning the possible misuse of legal persons. Specifically, the mutual evaluation revealed that not all types of legal persons were covered in the risk assessment, relevant risk assessment was not consistent with the results of national risk assessments, and only domestic threats and vulnerabilities associated with legal persons were considered. Finally, FATF concluded that registries, companies, FIs and DNFBPs and competent authorities did not demonstrate a good understanding of the risks involved in using legal persons.

Adequacy, accuracy and timelines of information on beneficial ownership. The evaluation revealed that beneficial ownership information collected was not accurate and there were no systems in place to actively verify, test or monitor the information. Nor were there requirements of legal persons to update their beneficial ownership information or inform the registry that there were changes to beneficial ownership. Countries did not coordinate among different sources of information to cross-check information for accuracy. Moreover, the parties responsible for updating the information lacked rigorous customer due diligence (“CDD”) measures and were unable to identify beneficial ownership information when complex structures or foreign ownership was involved. Finally, there were no record retention requirements.

Access by competent authorities. The evaluation found that there was inadequate mechanism to ensure that competent authorities had timely access to beneficial ownership information. This was so because of the obstacles to information sharing caused by data protection and privacy laws. Moreover, FATF found that competent authorities did not share information and had no procedures to seek information from parties obligated to provide information. The lack of registration and licenses mechanisms caused competent authorities’ difficulty in identifying the source of information. Finally, competent authorities lacked sufficient resources to carry out investigations

Bearer share and nominee shareholder arrangements.  The evaluation determined that countries did not place risk mitigating measures in place to address money laundering concerns, particularly because ownership of the bearer shares and share warrants were not sufficiently accessible or transparent. FATF found that the use of nominee shareholders obscured the ultimate control and ownership of the companies.

Fine and sanctions. The evaluation found that there was generally a lack of effective, proportionate, and dissuasive sanctions directed at companies that failed to provide accurate and up-to-date information on beneficial ownership and reporting entities which failed to apply specific CDD measures required for legal persons. As we previously blogged, many countries in the EU have failed to prosecute people for money laundering offenses and has in general lagged behind the US on enforcement actions against money launderers.

International Cooperation. The evaluation found that there were inadequate mechanisms for monitoring the quality of assistance received from other countries. Specifically requests for information often took a long time to fulfill when they involved multiple international agents and complex legal issues. This concern was amplified by the fact that not all countries keep beneficial ownership information.”

 


Sean HockingSean HockingNovember 1, 2019
tax.jpg

6min2290
If you wish to re-publish this story please do so with the following accreditation
AUTHOR:  aBIZinaBOX Inc. CPAs – Jordan S. Zoot, CPA
PUBLISHER:  CANNABIS LAW REPORT

An Elegant Solution – we are writing this article for the cannabis cultivators of the Emerald Triangle as well as all of the cannabis growers in smaller and less well-recognized enclaves of cannabis cultivation throughout California.

This Article Is For You!

As our followers are aware, we have written a number of articles regarding the financial advantages of the use of a Cannabis Cooperative Association (“CCA”) for California’s cannabis industry[1].   This article describes use of a CCA that appears to have been wholly overlooked by many of the advisors to California’s cannabis industry.

Everyone who follows the cannabis industry is aware the United States Tax Court hammered the industry with its opinion in Northern California Small Business Assistants Inc. v. Commissioner[2], This case affirmed the earlier decision of Judge Mark V. Holmes in the first Harborside case[3] ,, that IRC §280E disallows any deduction to a cannabis dispensary of ordinary and necessary business expenses for federal income tax purposes.

A CCA provides an elegant solution to this problem for well-advised California cannabis cultivators. A CCA is a special form of California corporation created by the California legislature to allow small California cannabis cultivators to organize the equivalent of an agricultural cooperative. The Long Valley Cannabis Cooperative Association is the legal equivalent to the Sacramento Valley Pear Growers Association under California law. Both of these organizations are marketing and processing agricultural cooperatives.

The critical aspect under California law for the Long Valley Cannabis Cooperative Association and the Sacramento Valley Pear Growers Association is that both of these organizations are legally recognized cooperative organizations. Both of these organizations can own and operate an incorporated distributorship. A wholly-owned corporation that operates a distributorship for a cooperative will be deemed to be conducting a portion of the business activities of the cooperative for federal and California income tax purposes.

At this point, a reader should ask, What does this have to do with IRC §280E? Cooperatives can have buyer members as well as grower members. Pear connoisseurs can join the Sacramento Valley Pear Growers Association as members in order to be confident they will receive the best pears at the lowest possible price. Cannabis connoisseurs can join the Long Valley Cannabis Cooperative Association as members in order to be certain they will receive the highest quality Emerald Triangle cannabis at the lowest possible price.

The financial relationship between the purchaser members of a cooperative and the cooperative is determined by the membership agreement as a matter of contract law. As long as the contractual relationship does not improperly circumvent tax laws, the contractual relationship will be respected for federal and California income tax purposes. If a consumer member of Long Valley Cannabis Cooperative Association contractually agrees to reimburse the cooperative for the taxes and non-deductible business expenses the organization incurs in connection with the member’s purchase as a contribution to the capital of the cooperative, the agreement will be respected for federal and California income tax purposes. The cooperative will receive the money required for the organization to tax the taxes imposed on the sale of cannabis as well as the non-deductible business expenses without being required to include this money in revenue.

Of course, great care must be taken in the organization and operation of a cannabis cooperative as a CCA in order to secure these tax benefits. Is it worth the effort? Of course, it is. The income tax deficiency asserted by the IRS in the Northern California Small Business Assistants Inc. case for the one year before the Tax Court exceeds $1.0M.

[1] See Licensing a Cannabis Cooperative Association, CCA’s Create Profits and Towards A Better Mousetrap

[2] 153 T.C. No. 4 (2019).

[3] 151 TC 3 [2018]


Debra BorchardtDebra BorchardtOctober 27, 2019
shutterstock_1206410566.jpg

5min21761

On the October 27 episode CBS news program exposed the California cannabis illegal grow problem. The show highlighted that more supply is grown than is sold within the state and that most of the surplus is being shipped east to states where marijuana is still illegal and can be sold at a higher price.

The program interviewed one farmer, who was trying to grow his cannabis legally, but because of onerous taxes and numerous fees, he can’t make a profit. Mikey Steinmetz, Co-founder of Flow Kana walked the CBS reporter through the company’s clean, shiny and very expensive factory to show what a legal operation looks like. He, too, bemoaned the state’s inability to control the illicit market.

Todd Kleparis, the CEO of cannabis security and distribution company Hardcar wrote, “Last month, it was announced that there had been a significant license contraction for cultivators, manufacturers, and retailers in the state. There was a 48% drop in active cultivation permits and a 29% drop in licensed manufacturers, according to statistics offered by Marijuana Business Daily. This loss in licenses for cannabis was because those who had been approved for temporary licenses for cannabis-related operations (that expired earlier this year) couldn’t meet the regulatory requirements for obtaining provisional and annual permits.”

He went on to add, “More importantly, there is a significant barrier to entry, both financially, and in terms of compliance, to the legal cannabis market in the state that once held such promise for cannabis. Those who once had a hope of moving from grey to legal are left to consider going back into the shadows, rigorously pursuing the investors needed to build capital for licensing, or give up altogether.”

Jordan Zoot pointed this out in a previous piece on Green Market Report saying, “California’s underground economy generates between $60 to $140 billion in unreported revenue annually, according to a University of California at Los Angeles Labor Center report, depriving the state of $8.5 billion in corporate, personal, and sales and use taxes each year.

A pilot program has allowed a team of agencies in Sacramento and Los Angeles to work together to investigate and prosecute the most outrageous felony-level multijurisdictional underground economic crimes in California. AB 1296 builds on the success of a state pilot program by permanently establishing law enforcement teams in Sacramento and Los Angeles and authorizing additional teams in the three other major metropolitan regions of the state: San Diego, the Bay Area, and Fresno.

Investigative teams have identified $482 million in unreported gross receipts and $60 million in an associated tax loss to the state. Additionally, through its criminal enforcement actions, the pilot program has recovered over $25 million in lost tax revenue, victim restitution, and investigation costs.

The legislation strengthens the program by ensuring multi-agency collaboration between several governmental entities, including the Department of Justice, the Department of Tax and Fee Administration, the Franchise Tax Board, and the Employment Development Department. Together these agencies combat wage theft, tax evasion and other crimes in the underground economy.

Zoot also determined that “The taxes that California should be collecting are approximately 31% of the gross receipts of cannabis businesses, or $960K for each “black market” cannabis entity, and $1.1MM per legal cannabis entity. The annual total for cannabis taxes for the “black market” and legal business should be $3.66B. It is our recollection CDTFA recently announced the cannabis taxes collected for the second quarter of 2019 were $144.2MM[3] vs. $915MM California should be collecting.”

 


Sean HockingSean HockingOctober 23, 2019
shutterstock_309992177.jpg

15min2540
If you wish to re-publish this story please do so with the following accreditation
AUTHOR:  aBIZinaBOX Inc. CPAs – Jordan S. Zoot, CPA
PUBLISHER:  CANNABIS LAW REPORT

We were prompted to write this note in part by an article published on the Harris Bricken Canna Law Blog entitled, Five Common Problems in California Cannabis M&A Transactions. The article describes five minor, and very obvious, points that must be considered in connection with such a transaction:

(1) California cannabis regulations;

(2) regulatory prohibitions against sales of cannabis licenses;

(3) triggering ownership disclosures through indirect acquisitions;

(4) regulatory prohibition of single-step complete changes of ownership; and

(5) additional considerations for foreign investors.

These five items are issues. These items are obvious considerations for an experienced lawyer representing a party in a significant M&A transaction. We note that it is stunning that no mention is made of the necessity of performing requisite due diligence in connection with an M&A transaction, a discussion that is beyond the scope of this article.

The most significant issues in negotiating and documenting an M&A transaction revolve around the Representations and Warranties. A comprehensive checklist of the issues that should be considered in the preparation of an agreement for a significant M&A transaction will likely be a multi-page document. The checklist is the foundation for the Representations and Warranties which are designed to assure that all of the parties involved in such a transaction receive the benefits for which they negotiated the agreement.

The author has reviewed M&A agreements which were in excess of forty pages of single-spaced type. The author has reviewed M&A agreements for which the attached schedules and exhibits exceeded 250 pages. The critical portions of an M&A agreement involve the scope, survival, and enforceability of the Representations and Warranties as well as a careful delineation of the extent to which each of the parties is obligated.

California’s cannabis industry did not invent M&A activity. Corporate finance and investment and M&A activities have existed from the time business began being conducted through legally recognized artificial business entities. Lawyers have been drafting and litigating M&A agreements for centuries, although most of the significant law for present-day transactions has developed over the past fifty years.

The parties to a significant M&A transaction involving California’s cannabis industry as well as all of their advisors should conduct business based on the premise the arrangements established by the M&A agreement will not evolve in the manner contemplated by the parties at the date the M&A agreement is executed. California’s cannabis industry is changing rapidly. California is struggling with the implementation of a highly regulated legal marketplace for cannabis. This state of flux must be addressed in any M&A transaction documents.

The preceding is simply an explanation of the inspiration for this article, which could be titled more accurately as What Resources Should Be Found in a Cannabis Law Firm? Cannabis law is state-specific with an over-riding gloss of federal law. Federal law covers cannabis law with a suffocating heavy gloss due to the consequences of federal criminal law, the Controlled Substances Act [“CSA”],[1] the Bank Secrecy Act, and IRC §280E. Notwithstanding the focus of most attorneys that provide advice to California’s cannabis industry on these aspects of federal law, some other important bodies of federal law apply to California’s cannabis industry, such as federal securities laws and the RICO statutes. The vaping crisis and the 2018 Farm Bill add other complications at the federal level for advisors. Below the overlay of federal law, cannabis law is state-specific.

Based on the preceding, a cannabis law firm must have state-specific knowledge of cannabis laws as well as access to expertise relating to criminal law, banking law and tax law. Tax law expertise in most instances is best provided through an established relationship of the law firm with a CPA firm in addition to a tax lawyer on board. A CPA firm is generally better equipped to address accounting and reporting issues for a cannabis business than a tax lawyer. The involvement of a qualified CPA firm is required in connection with any significant California cannabis business in order to meet both tax reporting and regulatory reporting requirements.

In connection with any M&A activity involving California cannabis businesses, the expertise of both a tax lawyer and a CPA firm is critical. Taxes payable to a governmental agency represent 45% of every dollar collected from a California cannabis consumer. In an M&A transaction involving a California cannabis business, the Representations and Warranties relating to taxes, the associated indemnifications, and the ability to collect on any indemnification, may prove to be the most important aspects of the agreement.

As an example, consider the likelihood that the accounting firm involved in advising Harborside[2] failed to establish a sufficient reserve for financial accounting purposes through the provision for federal income liabilities because it failed to consider the impact of the two Tax Court decisions as well as the changes in California law relating to cannabis on Harborside’s federal income tax liabilities for 2013-2019[3]. The reserves established may also be inadequate on account of the failure to consider the interest in the assessments for 2007-2012.

The Tax Court Judge in Harborside concluded expert opinions such as the Cost of Goods Sold [“COGS”] report prepared by Henry Levy, CPA were inadmissible. Levy analyzed several regulations, certain sections of the Internal Revenue Code, and some sub-regulatory guidance. Levy concluded that Harborside was entitled to a higher COGS adjustment than it originally claimed. The IRS moved to exclude Levy’s report and testimony on the ground his conclusions were legal opinions rather than facts. Judge Mark V. Holmes agreed, writing in his decision that expert opinions on law are inadmissible because they do not assist the trier of fact. “Each courtroom comes equipped with a ‘legal expert,’ called a judge,” he quipped, citing Burkhart v. Washington Metro. Area Transit Auth., 112 F.3d at 1213.

California is distinctly different from all other states with respect to its cannabis tax law. California tax liabilities that may be open to question after the closing of an M&A transaction involving a California cannabis business may represent as much as 50% of the total consideration paid in the transaction. California enacted two cannabis specific taxes: a Cannabis Cultivation Tax (“CCT”) and a Cannabis Excise Tax (“CET”). These two taxes are different in some respects from all other taxes imposed by California. As a consequence, the administration of these taxes is unusual. California is unlikely to have properly functioning CCT and CET reporting and collection for at least five more years.

California also altered the manner in which the general principles of commercial law apply to cannabis businesses. In addition to taxation, California has enacted specific provisions for some cannabis businesses relating to: water; land use; public health and safety; administrative processes; environmental regulation; trademarks and trade names; unfair competition; California securities laws; local taxation; and local regulation. Advising California cannabis businesses involved in M&A transactions is far more difficult than advising businesses in most industries. The difficulties flow from the necessity of addressing a wide variety of federal, California and local laws and regulations. The complexities in the law, in turn, demand specialized accounting and recordkeeping for financial reporting, tax and regulatory compliance purposes.

The passage of Proposition 64, which was the basis for the legalization of adult-use cannabis in California, preserved all of the rights granted to California residents in Proposition 215, which legalized the medical use of cannabis in California. The differences in the taxation of the movement of cannabis from cultivator to consumer assures that medical cannabis will always be less expensive than adult-use cannabis in California. The differential is sufficiently significant that medical cannabis will exist in California for the foreseeable future. A full understanding of all of the ramifications of the preservation of two forms of legal cannabis in California will take many years to resolve. The differences between adult-use and medical cannabis also make the documentation of M&A transactions more complex.

The California Legislature created a new form of corporation in SB 94[4], a Cannabis Cooperative Association (“CCA”)[5], in order to provide cannabis cultivators with the benefit of the use of agricultural cooperatives as a business structure. This business structure can be utilized solely for the conduct of business by cannabis cultivators. Some of the changes in California’s laws applicable to cannabis businesses as compared to all other businesses flow from the availability of the use of a CCA.

A CCA is a financially more efficient structure for the conduct of business than any conventional business structure, although at this time few appear to have discovered how to effectively utilize this special form of corporation. A CCA is taxed for federal income tax reporting pursuant to Subchapter T of the Internal Revenue Code. In other states, cannabis cultivators may be able to use conventional agricultural cooperatives as operating structures. Any analysis of optimum operating structures, of course, is state-specific.

A cannabis law firm purporting to be able to advise a California cannabis business in a significant M&A transaction, in addition expertise with respect to M&A transactions, and the expertise described above, should at a minimum also have ready access to expertise relating to: environmental regulation; trademark and trade name regulation; unfair competition laws; California and federal securities laws; local taxation; and local regulation. For the reasons described above, extensive experience and expertise with respect to M&A transactions and taxation are likely to be most important. The involvement of a competent CPA firm will also be an absolute necessity.

If anyone told you making money in California’s legal cannabis industry is easy, they lied!

[1] 21 U.S.C. ch. 13 § 801 et seq.

[2] 151 TC 11 or See Tax Court In Harborside

[3] See Cannabis firm Harborside owes $11 million under 280E, US Tax Court rules which fails to note that the interest which will be assessed which likely double the total amount owed. While a substantial savings was achieved through the penalty abatement, penalties will likely be imposed for years after 2012 unless Harborside changed its reporting.

[4] Stats. 2017, Ch. 27, Sec. 107, (Effective June 27, 2017) – Sections 26220-26231.2

 


Sean HockingSean HockingOctober 23, 2019
images-39-3-1.jpg

3min2920

October 22 2019 Hanson Bridgett write….

Existing law, the Medicinal and Adult-Use Cannabis Regulation and Safety Act (MAUCRSA), among other things, consolidates the licensure and regulation of commercial medicinal and adult-use cannabis activities and authorizes persons to conduct specified commercial cannabis activities, as defined, in the state.

The objectives of the new law are as follows:

  1. To provide tax equity to the cannabis industry.
  2. To exempt commercial cannabis activity by a licensee from Section 280E of the Internal Revenue Code, relating to expenditures in connection with the illegal sale of drugs, in order to allow cannabis businesses to claim deductions and credits available to other legal businesses in the state.
  3. To provide commercial cannabis licensees the ability to claim ordinary business deductions from taxable income in the same manner that other state businesses do for state purposes.
  4. To align the Personal Income Tax Law with the Corporation Tax Law in relation to deductions under Section 280E of the Internal Revenue Code.

The Personal Income Tax Law and the Corporation Tax Law allow various deductions in computing the income that is subject to the taxes imposed by those laws. The Personal Income Tax Law conforms as of a specified date to federal income tax laws with respect to itemized deductions, including business deductions and items not deductible, except as specifically provided. The Corporation Tax Law does not conform to those federal income tax provisions, but specifically provides for deductions for purposes of that law.

Existing federal income tax laws disallow a deduction or credit for business expenses of a trade or business whose activities consist of trafficking specified controlled substances, including marijuana. This is known as the section 280E disallowance section of the internal revenue code. The Personal Income Tax Law conforms to those federal income tax law provisions with respect to deductions.

The new law, for each taxable year beginning on or after January 1, 2020, and before January 1, 2025, would specifically provide in the Personal Income Tax Law for nonconformity to that federal law disallowing a deduction or credit for business expenses of a trade or business whose activities consist of trafficking specified controlled substances only for commercial cannabis activity, as defined under MAUCRSA, by a licensee under MAUCRSA, thus allowing deduction of business expenses paid or incurred during the taxable year in carrying on that commercial cannabis activity under the Personal Income Tax Law.

This new law takes effect immediately.

Source: https://www.hansonbridgett.com/Publications/articles/2019-10-good-tax-news-the-cannabis-industry


StaffStaffOctober 18, 2019
shutterstock_322263122.jpg

9min3930

Guest opinion piece by Todd Kleperis, CEO of Hardcar. 

Protecting What’s Left of the California Cannabis Industry

Many people within the cannabis industry operate on the assumption that it’s safe to move cannabis products and cash within states; after all, peace and love are all that the plant is about, right? 

As an established cannabis security professional who has been operating in California since before legalization with my cannabis security company, HARDCAR, I can confidently confirm that when it comes to participating in the legal market, many are willing to trade in the peace and love of the plant for criminal activity and potentially life-threatening situations. 

I hate to say it, but the California cannabis industry is slowly killing itself and has the potential to literally endanger lives as a result of this loss of a promised regulated system that intended to keep cannabis clean of criminal activities. 

Pushing Cannabis Back into the Shadows

With a recent contraction of hundreds of cannabis licenses, California could be getting itself into is a situation that threatens the security and safety of those moving cannabis, and cannabis cash, across the state. 

Last month, it was announced that there had been a significant license contraction for cultivators, manufacturers, and retailers in the state. There was a 48% drop in active cultivation permits and a 29% drop in licensed manufacturers, according to statistics offered by Marijuana Business Daily. This loss in licenses for cannabis was because those who had been approved for temporary licenses for cannabis-related operations (that expired earlier this year) couldn’t meet the regulatory requirements for obtaining provisional and annual permits. 

More importantly, there is a significant barrier to entry, both financially, and in terms of compliance, to the legal cannabis market in the state that once held such promise for cannabis. Those who once had a hope of moving from grey to legal are left to consider going back into the shadows, rigorously pursuing the investors needed to build capital for licensing, or give up altogether. 

The Bureau of Cannabis Control has done what it can to regulate a ferociously growing market, yet the job just proved to be too tremendous to regulate cannabis on such a large scale. No matter who is at fault for where we’re finding ourselves now, the State of California has deprived good human beings of the ability to provide reliable and convenient products to their established clients with these barriers for entry that make participating in the legal market a no-go. 

Is Cannabis in California Safe at All?

Those who operate in the grey market of cannabis are forced to do business within the shadows, but unfortunately many aren’t taking the necessary precautions to protect their safety while moving cannabis and cannabis cash. We’ve heard of, and even seen, cars with cannabis leaves peaking out of the trunk in an effort to transport the crop. People are transporting thousands of dollars of cannabis cash across cities, even the state, with no protection or precautions to protect the employee against being robbed. 

Licensed growers, manufacturers, distributors, and retailers are even putting themselves at risk with a lack of security on cash, product, and people. Despite the ideals that cannabis-related crime would begin to fall with the legalization of cannabis, people are still facing gun-related violence in California over cannabis. “People are getting shot over this plant,” said Ben Filippini, a deputy sheriff in Humboldt County said to The Atlantic, “All legalization did here was to create a safe haven for criminals.” In Humboldt County, the largest cannabis-producing region of the United States, 717 per 1 million people go missing each year. 

Across the state, delivery drivers, who can carry up to $10,000 in cash, are being robbed by criminals eager to take what the legal market has. To carry cannabis and cash without protection is just sheer lunacy. Shame on anyone involved in cannabis who will willingly put their people in harm’s way for a profit.  

Despite efforts to keep gangs and drug cartels out of the legal markets, it is speculated that those involved in organized crime are heading from prohibitionist states in the east to west to use California’s legal cannabis to feed illicit markets. 

While the headlines may feed us contradictory statements on the connection between cannabis and crime rates, we can’t deny that crime within cannabis still exists and persists. People want what licensed cannabis can provide and produce, and are willing to go to any lengths to get it. 

Simply put, the California cannabis industry is killing itself and endangering what’s left of it by its own lack of foresight towards its own regulations towards safety and security right after they got out of the gates.

Whether they like it or not cannabis will continue to be bought and sold in the Golden State and regulators will just lose their hold on a large portion of what could have been a tremendously large regulated market. 

Protecting What We Have Together

The regulated cannabis market in California has come too far to endanger what we’ve built. 

HARDCAR was built from the ground up to protect the cash, product, and most importantly the people of cannabis to ensure the safety of California’s legal cannabis while setting a standard for the state to strive to as far as enforced safety and security compliance. 

Our efforts have come from recognizing that cannabis can be dangerous and will continue to be if we don’t get the safety of cannabis under check now before more lives are unnecessarily lost. 

California and other states can work to develop the intelligence to recognize cannabis crime and put in the security measures to ensure it no longer persists. Just recently, we have uncovered one firm out of Colorado that carries up to half a million dollars in cash at a time, without any protection, and as expected, they have a target on their head. As a community around cannabis, we need to work together to intervene in these criminal activities before they have a chance of coming to fruition. 

Catching the cannabis industry before it becomes victim to crime starts with lessening the barriers to entry to receiving a cannabis license to allow people to operate legally, while also taking the proper security measures to ensure that cannabis product, cash, and people are safe. 

 


Debra BorchardtDebra BorchardtOctober 16, 2019
shutterstock_309992177.jpg

6min6620

Green Market Report reported news last week that Trump associates who had been arrested for campaign finance violations had applied for marijuana licenses in Nevada. It also seems one of the gentlemen tried to pursue licenses in California as well.

The San Francisco Chronicle reported that Andrey Kukushkin had attempting to build a cannabis business in the Bay Area. The paper said that Kukushkin had some control in a variety of cannabis companies named Oasis Venture, Legacy Botanical Co., and Venture Rebel Inc. It was reported that Kukushin first entered the space in 2015 as his Rebel Venture Inc. company was contracted by the medical marijuana dispensary MediThrive to manage its Mission Street location.

This information came about as Kukushkin sued his partners in 2018 claiming they cost him $1 million by running the company into the ground. Venture claims it gave MediThrive a million dollars to renovate a storefront and purchase inventory. The case alleges that the inventory got diverted to another business and the investment was squandered.

It looks as if this case is continuing as the latest filing is dated 9/3/2019. Cannabis law firm Greenspoon Marder seems to be representing Kukushkin in this case and Green Market Report is in the process of confirming whether this is still the case.

More recently, his Oasis Venture company planned to turn a large ranch in Livermore into a cannabis farm. It seems the neighbors weren’t so keen on the idea. Oasis Venture originally applied for a cultivation permit in 2017 but was denied. The paper reported that a business partner by the name of Chuk Campos wrote a letter to the Alameda County saying Oasis was going to use the cannabis to advance cancer research. The article says Campos is now distancing himself from Kukushkin.

According to CannaBiz Media, Andrey Kukushkin appeared on 11 cultivation and manufacturing licenses in California relating to Trava Group LLC., which wasn’t mentioned in the Chronicle story. Trava Group is based in California. CannaBiz said that the licenses appear to have expired, yet a story in the Mojave Desert News says a license was awarded to Trava Group for delivery only.

The Sacramento Bee is reporting that the FBI is investigating whether cannabis business people have tried to bribe California politicians. The Bee is suggesting that it could be Kukushkin that is being investigated, which is a logical conclusion since the group also tried to bribe politicians in Nevada in order to get licenses approved.

The Sacramento Business Journal reported that “Kukushkin’s business dealings extend to Sacramento’s legal cannabis industry, where he is a business partner of Garib Karapetyan, the CEO of Capitol Compliance Management, which is the group behind nearly one-third of Sacramento’s cannabis dispensaries.”

The Kolas dispensary brand is owned by Capitol Compliance and is up to nine of the 30 dispensaries licensed by the city of Sacramento. “Karapetyan has permits for eight dispensaries in Sacramento, according to The Sacramento Bee, making him the single largest permit holder for dispensaries in the city.”

The Bee had this statement: “If this story is true, then our cannabis licensing process, which was designed to protect consumers and reward local law-abiding businesses, is being improperly exploited,” said the mayor’s spokeswoman, Mary Lynne Vellinga, in a statement provided to the Business Journal. “The mayor is calling for an immediate investigation and will lead an effort to add additional safeguards to licensing process.”

 

 


Sean HockingSean HockingOctober 15, 2019
images-25-150x150-2-1.jpg

4min1720
If you wish to re-publish this story please do so with the following accreditation
AUTHOR:  aBIZinaBOX Inc. CPAs – Jordan S. Zoot, CPA
PUBLISHER:  CANNABIS LAW REPORT

California Repeals 280E for Personal Income Tax – Existing law, the Medicinal and Adult-Use Cannabis Regulation and Safety Act (MAUCRSA), among other things, consolidates the licensure and regulation of commercial medicinal and adult-use cannabis activities and authorizes persons to conduct specified commercial cannabis activities, as defined, in the state.

The Personal Income Tax Law and the Corporation Tax Law allow various deductions in computing the income that is subject to the taxes imposed by those laws. The Personal Income Tax Law conforms as of a specified date to federal income tax laws with respect to itemized deductions, including business deductions and items not deductible, except as specifically provided. The Corporation Tax Law does not conform to those federal income tax provisions but specifically provides for deductions for purposes of that law.

Existing federal income tax laws disallow a deduction or credit for business expenses of a trade or business whose activities consist of trafficking specified controlled substances, including marijuana. The Personal Income Tax Law conforms to those federal income tax law provisions with respect to deductions.

This bill, for each taxable year beginning on or after January 1, 2020, and before January 1, 2025, would specifically provide in the Personal Income Tax Law for nonconformity to that federal law disallowing a deduction or credit for business expenses of a trade or business whose activities consist of trafficking specified controlled substances only for commercial cannabis activity, as defined under MAUCRSA, by a licensee under MAUCRSA, thus allowing deduction of business expenses paid or incurred during the taxable year in carrying on that commercial cannabis activity under the Personal Income Tax Law.

Section1 of the statute states:

SECTION 1. Section 17209 is added to the Revenue and Taxation Code, to read: 17209.  

  • For each taxable year beginning on or after January 1, 2020, and before January 1, 2025, Section 280E of the Internal Revenue Code, relating to expenditures in connection with the illegal sale of drugs, shall not apply to the carrying on of any trade or business that is commercial cannabis activity by a licensee.

 

(b) For purposes of this section, “commercial cannabis activity” and “licensee” shall have the same meanings as set forth in Division 10 (commencing with Section 26000) of the Business and Professions Code.

(c) This section shall remain in effect only until December 1,2025, and as of that date is repealed.

 We will have more to say about what this means to businesses that operate as pass-thru entities in California at a point in the future.

The Bill

20190AB37_95


Video StaffVideo StaffDecember 13, 2018

1min5510

Humboldt County in California has seen its fair share of boom and bust cycles. From gold mining to logging, this county continues to reinvent itself. Now it’s cannabis that is fueling the county and specifically the town of Eureka’s latest boom. Rob Holmlund, the Director of Community Development in Eureka California tells the Green Market Report how the area has been transformed by the cannabis industry that has brought meaningful jobs to the residents.



About Us

The Green Market Report focuses on the financial news of the rapidly growing cannabis industry. Our target approach filters out the daily noise and does a deep dive into the financial, business and economic side of the cannabis industry. Our team is cultivating the industry’s critical news into one source and providing open source insights and data analysis


READ MORE



Recent Tweets

@GreenMarketRpt – 2 days

Our biggest fans this week: CannaWrite, DendeCannabist, EJBGlobal. Thank you! via

@GreenMarketRpt – 2 days

The Green Market Report’s Marijuana Money November 15, 2019

@GreenMarketRpt – 2 days

My week on Twitter 🎉: 9 Mentions, 18.1K Mention Reach, 10 Likes, 6 Retweets, 16.8K Retweet Reach. See yours with…

Back to Top

You have Successfully Subscribed!