Cannabis Accounting: Everybody’s a Newbie

accounting

The present boom in marijuana may well have created a boom for those accountants willing to provide professional services. What is fascinating about this emerging subfield in accountancy is that no one entrant can play the “experience” card against its actual or potential competitors–everybody is new to the market. Further, government regulators at all levels are new to the questions that it raises for them.

The IRS Advisory Council’s 2014 Public Report addresses the newness from the tax-law angle. It contains a section on assistance to marijuana businesses, in which it says that the tax professionals who give assistance to these businesses in states where they are now legal “need assurance that they will not be adversely affected by the fact that the business is illegal under federal law.”

As the IRSAC report stated, by the end of March 2014 “there were 190 recreational marijuana businesses in Colorado which [were] expected to gross one billion dollars in sales this year.” It recommended that they receive guidance that they “will not be considered unethical, will not be targeted for audit, and will not be in violation of Treasury Circular 230 solely to representing or preparing a return for a business that is illegal under federal law but legal at the state level under state law.”

 

A Major Headache

The IRSAC report also observed that these businesses cannot deduct all of their expenses under Internal Revenue Code sect. 280E. There is an irony within 280E itself, in that it apparently does not disallow the adjustment of gross receipts with respect to the actual marijuana, the “costs of goods sold” in accounting lingo, it only disallows such treatment of everything else–rent, lights and heat, etc. The irony itself illustrates why such businesses need well-informed accountants.

In a recent conversation, David Friedman, the President of CFO Worldwide, an outsource fund administrator and outsource CFO for closely held businesses, described 280E as one of the great accounting challenges for the new industry. “This is a major headache for the industry, but there are strategies that parties can employ to lessen it somewhat,” he said.

Has the language of the IRSAC quoted above proved encouraging? Has it inspired new entrants into the field of accounting for marijuana? Friedman — also the CEO of Panther Media, the publisher of Marijuana Investor News — said: “No, I don’t think this has had much impact one way or the other. People who are interested have pretty much ignored any potential threats from the Feds. Very few of my colleagues have been shying away from it.”

The number of states that allow some room for legal sales has now reached 26. The federal government (as that IRSAC report suggested in its solicitous concern) is looking for ways to make money off the trade it has long claimed to want to extirpate. The movement for a legal marijuana industry is now roughly where the movement for full marriage rights for gays and lesbians was about five years ago. It is making state-by-state progress and is gradually gaining public acceptance.

As Dave McClure wrote recently in CPA Practice Advisor, any accountancy firm “that is not actively engaged in at least evaluating its potential may be missing the opportunity of the decade.”

 

Who are the Entrants

So: What is the profile of the firms that are providing this service? The largest players, those known coast to coast or for that matter around the world, aren’t likely to rush in. They are neither angels nor fools: there are places where they will “fear to tread” for reasons of reputation. 

As Friedman said, “the Big Four won’t become active in this field. The margins just don’t make it a reasonable venture for them. The small and mid-market partnerships are the ones moving in to fill the void.”

The business is also inherently local. Of the states that have authorized a legal cannabis market, each has its own very unique rules. Not only are some medicinal only, but even within the recreational-use camp, the differences in terms of what is or isn’t permitted are great. So for now there are no economies of scale.

For now, one common factor among states involved is that legal cannabis is an all cash business. Since, as Friedman said, “the banks are keeping their distance, entrepreneurs have to meet their payroll in cash, do everything with cash,” and that creates a level of difficulty that will prove demanding for accountants.

As long as that remains the case, it appears likely that the usual forces of specialization will mould the field. Some accountants will become accustomed over time to the peculiarities of  this business, and their experience will make them sought after, creating a barrier to the entry of newbies.

That is a development for the near future: right now, though, everybody is a newbie.

Christopher C. Faille, a Jamesian pragmatist, was one of the first reporters taking the hedge fund industry as a full-time beat, at the turn of the millennium, with HedgeWorld. His latest book, Gambling with Borrowed Chips, treats of common misunderstandings of the crisis of 2007-08.

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