Los Angeles Cannabis Businesses Must be Audit-Ready

If anyone knows how critical it is to keep good records, it’s California cannabis companies. From metric analytics to regulatory compliance, the marijuana industry depends on data and documentation to ensure their operations are successful. Routine audits are a part of this.

As our Los Angeles cannabis lawyers know, there are many different types of audits. If you’re proactive, you conduct internal audits – of your policies, your practices, your financial records, your compliance accuracy, etc. There are external audits, which might be requested by the board, investors, etc. for a lot of the same reasons as an internal audit, except with a fresh set of eyes from the outside. And then there’s an IRS audit or compliance audit.

Three years ago, the Department of the Treasury’s Inspector General for Tax Administration indicated that the IRS intended to ramp up its audit of cannabis businesses nationally. That report flatly stated the IRS did not believe most marijuana industry companies were correctly applying IRC 28E, and thus might owe millions in taxes. (This was based on 2016 tax filings.)

Of the subsequent IRS audits that took place in three states (California, Washington, and Colorado), roughly 60 percent of cannabis companies had to adjust their tax returns – which totaled nearly $50 million in unpaid taxes just for 2016.

This year, the IRS has better staffing than in recent years – plus the ability to conduct most audits virtually. Owners of plant touching businesses need to be especially primed and ready for this.

Tax attorneys will tell you that while the IRS has been called upon to provide clear guidance to those in the cannabis industry so that they can ensure they’re following all regulatory guidelines, the available resources aren’t super helpful. It’s critically important if you are operating a cannabis company or CBD businesses that you keep meticulous records and that you already have a marijuana industry lawyer on retainer – for consult, if nothing else. This will help ensure that if you are audited, you can respond promptly and accurately and hopefully put the whole thing behind you without much trouble.

Being audit-ready means not being reactionary, but proactive. Reacting to an audit by ordering your policies, procedures, and processes is not the ideal. You want to already be prepared for that by having an airtight accounting and reporting system. This includes not only tracking transactions and goods sold, but your inventory, revenue, labor costs, etc. The amount of detail with every record will help not only ensure that your accounting is accurate, but also provides a blueprint of how you arrived at those conclusions. That way, if there’s ever a question or a mistake uncovered, it’s made clear that at least it was an honest one. (This can go a long way in curtailing potential penalties.)

You need to make sure that your standard operating procedures are clearly spelled out step-by-step, and that your staff has clear guidance on how to maintain the books. Follow Generally Accepted Accounting Principles wherever possible. Companies with end-to-end business processes (sequential steps that identify key controls and fraud risks) can go a long way in helping to accelerate an audit as well.

The Los Angeles CANNABIS LAW Group represents growers, dispensaries, ancillary companies, patients, doctors and those facing marijuana charges. Call us at 714-937-2050.

Additional Resources:

Documents reveal how IRS became more adept at evaluating marijuana company taxes, April 12, 2021, By John Schroyer, Marijuana Business Daily

More Blog Entries:

California Cannabis Businesses Should Prepare for DCC Inspections, Sept. 20, 2022, California Marijuana Business Lawyer Blog