Cannabis business owners face unique challenges. Unlike other businesses, you can’t deduct ordinary business expenses when you calculate your tax liability. Since cannabis is considered an illegal substance by the federal government, your tax deductions are limited to the costs of goods sold, short COGS. In this article, we’ll help you understand how Tax Management for Cannabis Business lower your tax burden.
Allowable Business Deductions
According to section 280E of the Internal Revenue Code, cannabis business owners cannot deduct common business expenses or take advantage of tax credits. All gross income you receive from your cannabis business must be used to calculate your taxable income except for the costs of goods sold. As a cannabis business owner, you carry a much larger tax burden than traditional businesses because of this. The section 280E regulation refers to all income derived from illegal substances, which includes cannabis.
The only way to reduce your tax burden is to keep track of and calculate the costs of goods sold and deduct them from your revenue. Your cannabis business may show a net loss in your accounting records and still be required to pay income taxes. Fortunately, we can help you maximize your deductions to minimize your tax liability.
How to Calculate COGS for Your Cannabis Business
To minimize your tax liability, you must understand section 471 of the tax code. It provides the framework for determining and calculating the costs of goods sold for your cannabis business. How to calculate the costs of goods sold depends on what type of business you run. Are you a distributor or a producer?
When distributing cannabis, costs of goods sold encompass producer payments and product acquisition costs. Producers can deduct direct expenses.
Don’t Co-Mingle Expenses
Tracking expenses diligently is crucial to deducting costs of goods sold and other expenses, ensuring compliance and minimizing tax liabilities. If records aren’t kept, deductions may be disallowed.
Do You Produce & Distribute Cannabis?
If you produce and distribute cannabis, you need to separate the two business activities. This includes obtaining separate licenses, setting up separate entities or divisions of your company, and separating the bookkeeping.
This goes back to not co-mingling your expenses. The IRS will not hesitate to audit cannabis business owners, which is why your accounting records must be in perfect order. Tracking your costs of goods sold can be done for both the production and distribution side of your business, but you must keep them separate.
State Taxes for Cannabis Businesses
State laws about producing, selling, and distributing cannabis are evolving. Many states have now legalized cannabis, but not all state laws have caught up with the tax laws. Several states allow you to deduct ordinary business expenses on your state income tax return, even though the IRS does not allow it. Other states still follow the same rules per regulation 280E, which means you can only deduct the costs of goods sold for your state tax return.
Report Your Cash Transactions
Another important consideration for cannabis business owners is the necessity of reporting cash transactions. If you handle a cash transaction or several related cash transactions totaling over $10,000, you must report this via Form 8300. This can’t wait until tax time. You have to report the transaction within 15 days of receiving the payment.
Work with Our Team in Tax Management for your Cannabis Business
At Reefer CFO, we specialize in helping cannabis business owners like you reduce their tax burden. This includes streamlining your record-keeping to help you maximize your costs of goods sold deductions allowed under the federal tax code.