An LLC is not always the best structure for a cannabis business due to tax implications. A C corporation provides more protection from tax liability and allows for raising funds through stock offerings. For retailers, a C corp is generally preferable to contain tax liability inside the corporation. Growers and processors have more options as 280E is less impactful, but an LLC or S corp may be best depending on ownership structure. Proper corporate structuring is important for cannabis businesses to maximize tax benefits.

1. Corporate Structuring
An LLC is Not Always Best
Tax & Code Section 280E
Simon Gumma, CPA, CGMA

2. The Importance of Corporate Structure
• What entity type makes the most sense by industry segment?
- retailer
- wholesaler/distributor
- producer/processor
• How ownership structure influences entity choices
- what functional role does the ownership group play in the
operation of the business?
• Does entity type even matter? (YES!)

3. The Importance of Corporate Structure (cont’d)
3 main options:
* C corporation
- Pays tax at the corporate level
- Subject to double taxation
* S corporation
- All shareholders must be individuals
- Reasonable salary to owner operators
* Limited liability corporation (LLC)
- Very flexible entity
- Pass-through income could be subject to S.E. tax

4. Entity Selection for your Cannabis Business: C Corp, LLC
or S Corp?
A few key factors:
• Tax analysis of your enterprise
• Examination of your business plan and objectives
• Work with a CPA specializing in cannabis
business taxation

5. C Corporation – General Considerations
Are you planning to raise funds through equity financing or from
institutional investors? If so, then a C Corporation is likely the right
choice for you.
• Raise funds, ability to issue stock to investors, create classes of
preferred stock for equity investments; greatest pool of investors
• Have better options when it comes to issuing equity incentives to
employees
• LLC can mimic (C Corp) and issue classes of “units” similar to stock,
but this offers no advantages for financing through equity
investments and limits the type of investors
• A C Corporation that manages its cash distributions usually achieves
a better tax result than being structured as a flow-through entity.

6. C Corporation – Tax Considerations
Before the Tax Cuts and Jobs Act (“TCJA”) the C corporation was not the first choice of
closely-held businesses. The first drawback was that C corporations had a relatively high tax
rate of 35%. Under the TCJA, that corporate rate was reduced to a flat 21%.
The second drawback, was the issue of “double taxation”. A corporation is subject to
income tax at the entity level. In addition, dividend distributions are taxable to
shareholders. Because of the historically high corporate tax rate, this double taxation
generally discouraged companies from operating as C corporations.
Under the TCJA, a corporation and its shareholders are still subject to double taxation;
however, the corporate tax rate has been lowered such that double taxation may still result
in the most favorable tax outcome.

7. C Corporation – Tax Considerations (cont’d)
For example, a C corporation that earns $100,000 will pay tax of $21,000 ($100,000 *21%).
If that same corporation dividends 100% of its earnings to shareholders, the maximum tax
at the individual level is $23,800 ($100,000*23.8%). So the combined amount of tax is
$44,800 ($21,000 + $23,800). In comparison, a partnership (or S corporation) results in
less overall tax to the owners $37,000 ($100,000 *37%).
However, a C corporation is the preferred structure if the plan is to limit the amount of
dividends paid to shareholders. For example the total tax hit to a C corporation and its
shareholders that paid out dividends of $50,000 is: $32,900 [$21,000+ $11,900($50,000 *
23.8%)]. In this case, a C Corporation saves $4,100 of taxes compared to operating as a
partnership. The C Corporation has the additional benefit of insulating
shareholders/owners from personal liability for federal income tax.

8. LLC’s / S Corp – General Considerations
• A good choice if you plan on keeping the number of owners small
• Owners usually self fund the company’s growth
• Easier to create and maintain
• Easier to amend
• Very customizable
• Profits and losses pass through directly to the members/shareholders
• May create unrelated business taxable income to outside investors

9. LLC’s / S Corp – Tax Considerations
Generally, taxation as a partnership/flow-through entity will be more favorable under the
following circumstances:
• The individual tax brackets of the LLC members are below 37%;
• The individual member/partners qualify for the favorable 20% deduction for flow-through
income under IRC section 199A;
• The business plan emphasizes distributing cash to investors over reinvesting cash into the
business (growth).
Comment
After going through the exercise of comparing the different structures, the majority of our
clients end up choosing a C Corp. However, a fair number are more comfortable with LLCs
through their experience in other business ventures. Further, these are businesses where the
owners anticipate contributing their own capital to fund the company’s growth, or possibly
reaching out to a small pool of capital partners or other financing.

10. Something Else to Think About – Hybrid Structures
Utilizing the application of the Real Estate Investment Trust (“REIT”). The REIT is a legal
entity not subject to federal income tax. Instead, a REIT may deduct dividends it
distributes to investors, essentially acting as a conduit. REITs must have at least 100
shareholders and are suitable only for large scale investments.
Certain corporations may be treated as cooperatives under federal income tax law.
Cooperatives may or may not be taxable entities under the federal income tax law. An
organization that is considered a cooperative under state law does not mean that the
organization is a cooperative (or tax-exempt) under federal income tax law. One possible
advantage to operating as a federal cooperative is that certain patronage dividends are
deductible by the co-op and taxable to the recipient. Cooperatives may avoid double
taxation; however, the operating requirements are highly technical and strictly
enforced.

11. * C corp is preferred vehicle to operate dispensary or
recreational cannabis store
• Tax liability is contained inside the corporation
- Some retailers are not profitable after taxes
• Shareholders not liable for taxes of the business individually
- Protects shareholders’ other assets from potential liens
and levies
Corporate Structure: Retailers

12. • Can be as tax efficient as pass-through entity
- Downside protection could be more important in
EARLY years
• Low salary, high dividend strategy
- Ability to control timing of dividends
- Can also take loans from corporation tax free. Must
eventually be repaid.
Corp. Structure: Retailers (cont’d)

13. Corp. Structure: Retailers (cont’d)
* S corp can hold a tax trap for
the unwary
• Non-deductible or partially non-
deductible salary gets taxed
again at individual level via W-2

14. Corp. Structure: Retailers (cont’d)
• “Reasonable salary” can potentially cause double taxation
- IRS could demand higher “reasonable salary”
• Highly profitable retailer could make switch to S corp after
business is established, profitability metrics determined
• Compare C vs. S corps side-by-side
- assume salary is non-deductible & dividends are
maxed to make determination

15. Corp. Structure: Retailers (cont’d)
* LLC
• Also a pass-through entity, so tax liability determined at
individual level
• Income is subject to self employment tax + income tax
- Can be a substantial amount
• Same downside issues as S corp:
• Tax liability is individual liability
• Exposes owners to potential tax liens and levy

16. Revenue $1,000,000
COGS (400,000)
Gross Margin 600,000
SG&A (non-deductible) (500,000)
Pretax income 100,000
Tax (corp. rate) (126,000)
After tax loss $ ( 26,000)
• Example of why it makes
sense to use a C corp. when
non-deductibles are relatively
high
• Company is experiencing an
economic loss after taxes
• Wise to contain the tax liability
inside the corporate entity
rather than passing it through
to the individual shareholders
Corp. Structure: Downside protection (C Corp)

17. Corp. Structure: Secure Transporter/Distributor
• Tax impact similar to retailers
• C corp is preferred entity
• Delivery and sales expenses are
significant and are generally NOT
deductible for tax purposes
• Expenses of receiving goods ARE
deductible

18. Corporate Structure: Growers & Processors
• 280E impact not as significant
• Traditional net income is closer to taxable income
as compared to retailers
• C corporation protections are less urgent

19. Corp. Structure: Producers & Processors (cont’d)
• S corp or LLC is viable option
- depends on ownership
structure, operational functions
of owners
• Pass-through entities are more
tax efficient
• One level of tax vs. C corp

20. Growers/Processors: Ownership Example
• Three owners
- Two in charge of production
- One in charge of admin, distribution and marketing
• Best option would likely be LLC
• Requirement to pay “reasonable salary” to admin partner would
create a double tax to extent of his or her non-deductible wages
• LLC not required to pay a “salary”
• Weigh cost against self-employment tax

21. Retail Tax Strategies
• Split cannabis sales away from paraphernalia,
branded merchandise and other items or services
• Best method is to physically divide premises and
put respective operations in separate entities
• Separate books and records

22. Retail Tax Strategies (cont’d)
• Separate employees
• Must be a real and substantial business; should
be able to stand on its own
• Opportunity for deductible brand marketing

23. Grower/Processor Tax Strategies
* Segregate Your Operations
• Producers and processors should hold any land,
building and equipment in an entity separate from
the one that is considered to be trafficking.
• Lease back to operating entity
• This entity will not be subject to 280E and
therefore not subject to deduction restrictions

24. Grower/Processor Tax Strategies (cont’d)
• Opportunity to take more aggressive tax depreciation
deduction
- Section 179
- Bonus depreciation
• Those methods not available in cannabis COGS due to
clear reflection of income issues
• Changes the character of the income or loss to rental

25. Effect of Separate Entities on Depreciation
Assets placed in service
Land 200,000
Building 500,000
Improvements 130,000
Equipment - 7 year 400,000
Equipment - 5 year 50,000
Total 1,280,000
Comparison of First Year Depreciation
Leasing Company (not subject to 280E) 270,013
Grow Operation (Entity subject to 280E)
81,442
Additional Depreciation allowed 188,571
Potential Tax Savings @ 35%
$ 66,000
Note: If the overall income of the Leasing Company allows for
the § 179 deduction, the first year depreciation would total
$461,442 producing a potential tax savings of $133,044!

26. Grower/Processor Tax Strategies (cont’d)
• Creates potential opportunity to offset operating income
• Be sure to charge commercially reasonable rents. Don’t get
cute!
• Lease agreement should be in writing
• Creates different opportunities for investors that don’t want
direct connection to cannabis
- Work-around for out-of-state investors if your state prohibits

27. Grower/Processor Tax Strategies (cont’d)
* Intellectual property
Another segregation strategy
Hold all brands, recipes and production or
processing methods outside of operating entity
Should have a business purpose for doing so

28. Grower/Processor Tax Strategies (cont’d)
License to operating entity for a fee, which can be
deductible
- should be written agreement
Opportunity to license to “partners” in other states
Operation of entity is not subject to 280E because
licensing is not trafficking

29. Why Do You Need Two LLC’s & A C Corp?
1. Once entity is the actual cannabis enterprise holding the
license.
2. The other entity is the management company providing goods
and services to the cannabis enterprise
3. Management company marks up the goods & services, creating
a higher COGS
4. The third is to hold the share of the management company
Setting Up –
Corporate Structure is Your First Defense

30. - No deduction or credit shall be allowed for any amount paid
or incurred during the taxable year in carrying on any trade or
business if such trade or business (or the activities which
comprise such trade or business) consists of trafficking in
controlled substances. (within the meaning of Schedule I & II
of the Controlled Substances Act) which is prohibited by
Federal law or the law of any State in which such trade or
business is conducted.
- If an expense is not part of cost of goods sold; it is not
deductible.
280E Defined

31. 280E (cont’d)
• Cost of goods sold is only deduction available to
businesses trafficking in cannabis for federal tax
purposes
• Some states do not apply 280E for state income tax
purposes (Oregon)
• Focus on capitalizing as many expenses as possible to
COGS; this is actually the IRS’s preferred position

32. 280E (cont’d)
Example: Is Labor Deductible?
Grower/Processor
• Can be considered part of COGS
• Indirect management and administrative salaries are not deductible under 280E
Provisioning Center/Retailer
• Generally not deductible
• Some tasks may be associated with inventory (COGS)

33. 280E (cont’d)
Proving deductions to the IRS is a two-step process:
• First, you must substantiate that you actually paid the expense you are claiming
• Second, you must prove that an expense is actually tax deductible
Comment
The IRS has formed special audit groups that are tasked with conducting cannabis tax audits on
medical and recreational cannabis businesses.

34. Michigan Taxation of Medical Marihuana
• 3% Excise Tax – NEW
The Medical Marihuana Facilities Licensing Act
File and remit quarterly; 30 days after the end of the
calendar quarter
• 6% Sales or Use Tax
The General Sales Tax Act / The Use Tax Act

35. Tax Tips: Do…
Keep good accounting records
Have a written operating agreement, written
leases, written royalty agreements
Hire a good attorney and CPA

36. Tax Tips:
Don’t…
Cut corners
Listen to advice that seems too good to be true
Procrastinate

37. Thank You