Here's another in our series of Buzzkillas videos, featuring Indiva COO Katye Maxson-Landis speaking on the topic of what business entity makes the most sense for your cannabis company.
Tax implications, as well as the kind of activities that cannabis companies are involved in, vary from state to state. This makes it important for cannabis startups to choose the right business entity for their operations. Think about it this way: If you’re operating a car company, you wouldn’t want your name to be tagged to an automaker with operations across the country. Similarly, if you run a clothing company or a restaurant and plan on expanding into other fields like real estate or tech, it makes sense to have your company under the same roof.
In addition to the different legal implications of choosing different business entities, there are different benefits and disadvantages of each pass-through option. In this article we’ll go over the top 5 business entities for a cannabis company and explain which one is right for your venture.
Check out the video:
So one of the most common questions that I get when I am first meeting with a client is "What entity should I be? My lawyer sent me in here and said you've got to work this out for me." Great. I love talking to people at the beginning of the process, instead of having to clean up something at the end of the process, which makes it twice as expensive. If you can get in in the beginning, please do.
My favorite entity depends. It depends on a facts and circumstances-based series of questions that I ask all the clients and it's really not a one size fits all answer. It's specific to you.
In general, if you run a dispensary my suggestion is that you use a C corporation because the tax rate is lower. There's protection from a liability standpoint, if you run the C corporation correctly, from the 280E burden, because the corporation is being required and asked to pay those taxes themselves. And yet, running a C corporation requires that you behave differently in response to your business than you might normally as a small business owner.
You are not allowed to just take money out all of the time. You can't co-mingle funds, you have to be diligent about how you run your business. So if you're a person that feels, "Oh my gosh, I'd love the liability, but I don't want to follow the rules," then we as a practitioner and as a client need to come to a different decision for you.
In general, I'd like to see a dispensary in a C Corporation. But I have had partnerships I have had S-corporations. I've even had a Schedule C. I've moved a lot of those to different structures as those clients have been able to understand the benefit of doing a little more of the work of behaving differently. But ultimately, it's up to you.
If you're in a manufacturing position or you're a farm, I think that you have a little bit more flexibility because your cost of goods sold is higher. Maybe your tax burden is going to be a little lower. But in general, I want people to be corporations because I want them to be able to run wages, be good corporate citizens, be able to see a distinction between their personal world and their business world, and then act accordingly in different ways.
If everyone was a C corporation, sure, it might be a little bit easier on us as accountants in one way or the other. But just like every person is a little bit different, every person's relationship to the cannabis industry and the kind of entity they feel comfortable with might be different as well.
What are the options when selecting a business entity?
When setting up a business, there are several options for structuring the entity, each with its own set of pros and cons. The most common options include:
Sole Proprietorship: This is the simplest and most common form of business entity. In a sole proprietorship, an individual owns and operates the business, and is personally liable for all of the business's debts and obligations. The biggest advantage of a sole proprietorship is that it is easy to set up and manage, but the disadvantage is that the owner is personally liable for any debts or legal actions against the business.
Partnership: A partnership is a business owned by two or more individuals. Partnerships can be general partnerships, in which all partners have an equal say in the business, or limited partnerships, in which one or more partners have limited liability. Partners share in the profits and losses of the business, and are personally liable for the business's debts and obligations.
Limited Liability Company (LLC): An LLC is a hybrid between a partnership and a corporation. The members of an LLC have limited personal liability for the business's debts and obligations, similar to a corporation, but the business is taxed as a partnership. LLCs are relatively easy to set up and manage, and can be a good choice for small businesses.
Corporation: A corporation is a separate legal entity from its owners, and is typically owned by shareholders. The shareholders have limited liability for the business's debts and obligations, and the business is taxed as a separate entity. Corporations can be more complex to set up and manage than other business structures, but they may offer greater personal asset protection and can raise capital by selling shares of stock.
C-Corporation: A C-corp specifically refers to a type of corporation that is taxed under Subchapter C of the Internal Revenue Code. C-corporations are subject to corporate income tax on their profits, and any dividends distributed to shareholders are also subject to personal income tax. This is known as double taxation, as the profits are taxed at the corporate level and again at the individual level when distributed as dividends.
S-Corporation: An S-Corporation is a specific type of corporation, and it is taxed like a partnership, and the income and losses are passed through to the shareholders and reported on their individual tax returns. This can provide tax benefits and help to avoid double taxation.
If you need help setting up your cannabis company and making sure you have the most advantageous entity structure, Indiva Advisors has the expertise and experience you can rely on. Get in touch today for a free consultation.