Employee Benefit Plans for the Cannabis Industry
- Jan 25, 2022
In this episode of CannaCast, Eric Altstadter, Partner and leader of EisnerAmper’s Cannabis and Hemp Group, speaks with Jewell Lim Esposito, a Partner at the Law Firm of FisherBroyles about employee benefits plans for the cannabis industry.
Eric Altstadter: Thanks for tuning into this episode of CannaCast. I'm your host, Eric Altstadter, EisnerAmper's National Cannabis and Hemp Practice leader. Please welcome Jewell Lim Esposito, a partner at the law firm of FisherBroyles. Jewell has 30 years of tax emphasis on employee benefits. She has a further subspecialty in title, one related to department of labor rules on civil enforcement, reporting, disclosure, fiduciary conduct, and title two related to IRS qualifications issues, all under the Employee Retirement Income Security Act known as ERISA. Her clients span the nation. Many of whom are public, private or tax exempt entities. And she has spent the last five to six years working with companies in the cannabis industry. Jewell, welcome.
Jewell Lim Esposito: Thank you, Eric.
EA: So Jewell, why is it so hard for a cannabis company to get an employee benefit plan?
JLE: I think the biggest difficulty is that service providers who normally tend to retirement plans so that would be the financial advisors, the third party administrators, record keepers, custodians, are hesitant to deal with cannabis companies since cannabis is a controlled substance under schedule one as everyone knows it's a listed substance. So for business reasons, those service providers are choosing to stay away from cannabis, hemp, and CBD companies when they can actually make the business decision to be in the business of servicing cannabis companies.
EA: So what coverage or benefits can a cannabis company offer their employees now?
JLE: A cannabis company is entitled to offer all the employee benefits and perks that a non-cannabis company offers its employees. So cannabis company can offer 401(k) plans, health plans, a stock options, et cetera.
EA: Are the plans for a cannabis company any different than plans for non-cannabis companies?
JLE: How they run under the tax code and under ERISA is exactly alike. All the same rules apply, all the same benefits to which a non-cannabis company is allowed to have a cannabis company can have. The difficulty is what I mentioned before, is since there are financial advisors, there're broker dealers, there're in house counsel, there're auditors, there're accountants, there're TPAs and record keepers, since they don't want to be in the business, cannabis companies are trying hard to find those legitimate providers who know what they're doing, basically with the intersection of employee benefit plans and cannabis.
EA: As you mentioned, cannabis is still a schedule one item. So is the cost of creating and maintaining a plan for a cannabis company more expensive than it would be for other industries?
JLE: I think that it's slightly more expensive in that the service providers who have decided to come into the space to provide employee benefits to cannabis companies are stepping in, taking up a business that many are choosing to not take up. They're having to research, they're having to educate, everyone involved, and then they have to do the vetting that's required of a cannabis company, the anti-money laundering vetting of the OFAC, Office of Foreign Asset Control vetting, et cetera, et cetera.
So that's not the typical vetting that has to be done for a non-cannabis company, but for a cannabis company because technically then if a service provider is accepting money from a cannabis company, then could that service provider be engaged in the trafficking of cannabis. So that's the type of investigation that has to be done up front. And there's a cost to that. And I think there's a cost to running a plan because nobody quite knows how to work with ERISA, tax and cannabis companies at the same time. So it's somewhat built in to the pricing. It's not very prohibitive. And in my experience cannabis companies are willing to pay that cost so that they can indeed give the perks to its cannabis employees.
EA: And you talked about those perks because those cannabis companies have to pay and it might be a little bit more expensive for a cannabis company rather than a non-cannabis company. Do the companies try to pass those expenses off on their employees, the cost to maintain the plan?
JLE: So as is an employer's right, whether cannabis or non-cannabis, an employer can determine whether or not certain costs of a plan operation can be passed to participants. Many of these cannabis companies are cash rich so the employer pays. Maybe some are not cash rich and so the cost is spread out across the plan and therefore across the plan participants. But it is again, not unlike the same decision that a non-cannabis employer would have to make with respect to where to have the costs paid from.
EA: When dealing with cannabis companies, the 600-pound gorilla in the room is always 280E. And for those that are unfamiliar with 280E, this allows a lot of normal expenditures that a cannabis company incurs from being tax deductible. Jewell, how does 280E impact the company's employee benefit plans?
JLE: So Eric, this might sound as if I'm throwing you a softball, but I always tell cannabis companies if they have a good CPA to help them with respect to their books, then they can address the challenges of 280E. As you were saying, 280E denies certain deductions, but as you know, if it is a cannabis producer, then those are the costs of providing employee benefits, which include a 401(k) plan and a health plan, et cetera, are costs that can be a part of cost of goods sold, tied to the production of cannabis.
Again, an accountant would explain this better, but essentially than the costs of providing employee benefits is permitted through an adjustment through the cost of good sold. Now, for those companies who are not producing cannabis and they're just in, say distribution, retail, then they'll have of the 280E prohibition and expensing employee benefit costs. But then there are many expenses that a company bears that they will pay nonetheless, even if they can't deduct it on their return.
And I'm just thinking, for example, sometimes certain executive compensation can't be paid if certain conditions aren't met yet, irrespective of the tax code saying that those expenses would not be deductible, the companies go ahead and pay those expenses, pay those salaries, pay that executive compensation. So sometimes it doesn't get in the way of a company doing its business just because it's denied the deduction.
EA: Yeah, you're a 100% right, Jewell. I agree with you 100%. And if a company is manufacturing hemp and cannabis and the hemp is illegal substance, can the company offer the hemp employees a 401(k) plan but exclude the cannabis employees?
JLE: So that's a great question. As we know hemp with the appropriate THC content, meaning low content, is legal under the federal farm bill. And we know cannabis is a schedule one substance, so yes, there shouldn't be any problems with service providers providing a 401(k) plan to a hemp company. But what I've noticed with the service providers, is they don't wish to delve into the nuances between and among cannabis, hemp and CBD to understand that hemp can go ahead and have a 401(k) plan without many of the challenges that a cannabis grower is experiencing.
But what I have seen, and I've seen it a lot in the last several years is that hemp companies who do have a 401(k) plan who are related to a cannabis producer, have not offered a 401(k) plan to the cannabis producer, but you know that there are discrimination tests under the internal revenue code that says basically if a company is related, this is very simplistic, but if a company is so related that it should be treated as one employer, then technically all of those companies should be in either a similar 401(k) plan or one that's close to it, because it's all subject to testing.
So let me just give an example. If there are 100 employees in a hemp company that are in a legitimate 401(k) plan and there are 100 cannabis producer employees who are not in a plan, and those two companies are related such that they're considered one employee or under the tax code, then technically then you're not covering 50% of the employee population.
And rather than going into those specific tests right there, you're running a foul of internal revenue code rules. So then that cannabis producer must go out and find someone to provide a 401(k) plan. And if they don't then with the plan that they have for the hemp employees, it's already excluding employees that should be included into it yet that cannabis grower can't find a plan. So the advisor and the TPA and the record keeper who was servicing the hemp company would do well to explain that because of the related entity, the cannabis producer, that those employees also must be covered under a plan.
EA: Interesting. Jewell, last question. Do you think we will see federally legal cannabis in the near future?
JLE: I thought that with this administration that we would see it sometimes soon, but I think this administration is confronted with economic challenges, inflation challenges, COVID challenges, that making cannabis federally legal, won't be the first item in their agenda.
EA: Thank you, Jewell. And thanks for listening to CannaCast as part of the EisnerAmper podcast series. Visit Eisneramper.com/cannabis for more inform and podcasts. And join us for our next CannaCast podcast where we'll discuss other budding issues.
Transcribed by Rev.com
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Eric Altstadter CPA is an Audit Partner and Chair of the firm's Cannabis and Hemp practice with over 30 years of experience working with public companies and privately held businesses
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