Cannabis Companies May Have Access to Tax Relief with the Employee Retention Tax Credit
By Lucia Valenzuela, Director, R&D Tax Services
While cannabis companies were unable to participate in most government-provided economic recovery packages in the wake of the COVID-19 pandemic, due to limitations under Section 280E, there may be good news. The Employee Retention Tax Credit (ERTC) does not explicitly exclude cannabis companies from eligibility for the ERTC.
Since Section 280E does not apply to employment payroll taxes because the provision is found in the income tax section of the code, qualifying cannabis companies may be able to capitalize on the credit that rewards employers for keeping their employees on payroll through the pandemic.
What is the ERTC?
Issued as a refund of an employer’s Form 941, the ERTC provides an incentive for those employers who suffered from pandemic-related disruptions and decreased revenues. If a cannabis company continued to pay employees through these challenges, they may be eligible to qualify for ERTC refunds retroactively. The refundable credit can be claimed on qualified wages, including certain health costs paid to employees.
Why was cannabis excluded?
Cannabis companies were unable to qualify for a Paycheck Protection Program (PPP) loan under IRS Section 280E, which prohibits them from deducting ordinary business expenses from gross income for the purpose of income tax. This is because while many states are now proposing and passing legislation to legalize cannabis, the substance is still federally classified as illegal under the Controlled Substances Act (and thus subject to IRS Section 280E).
How do cannabis businesses claim relief?
MGO’s approach to 280E mitigation is based on the idea that the rule only applies to income tax — not payroll tax. And because the ERTC is a payroll tax credit and issued as a refund, cannabis companies previously thought to be ineligible for relief can now claim it if they meet the qualifications:
(1) prove they had a decrease in percentage of gross receipts in calendar quarters during the COVID-19 pandemic when compared to prior quarters, or
(2) that they underwent a full or partial government suspension due to COVID-19 restrictions, like forced closure or quarantine.
The IRS has not yet weighed in on the cannabis issue, so for now, we consider it safe for cannabis companies to act on the opportunity. To determine qualification, a cannabis company will need to provide information like quarterly revenues, payroll tax returns, employee wages, and lines of business on Form 941, the Employer’s Quarterly Federal Tax Return.
Rely on cannabis tax and accounting specialists
All things cannabis tax and finance are complicated and make a major impact on an operator’s bottom line. On top of that, the IRS’ penchant for focusing additional attention on the cannabis industry is well-documented. As a result, cannabis operators should always utilize a cannabis-focused accounting provider that is well-versed in the ins-and-outs of cannabis tax compliance and planning.
MGO is uniquely positioned as a national leader in both tax credit advisory and cannabis accounting and financial best practices. We can help you identify tax credits, file claims, prepare documentation, and ultimately successfully defend your claim.
About the author:
Lucia Valenzuela is a Tax Director of R&D tax services at MGO. She is a licensed California attorney focused on helping clients identify and substantiate Research and Development (R&D) Tax Credits as well as defend their R&D credit claims against the IRS and State taxing authorities. Lucia has extensive experience in various industries, including software and technology, manufacturing, cosmetics, agriculture, and life sciences. Contact Lucia at LValenzuela@MGOCPA.com.