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CA Distributors: Help Protect Yourself from Excise Tax Penalties

California has a number of different licenses—nursery, cultivation, manufacturing, distribution, testing, retail, microbusiness (engaged in three cannabis business activities), and a few other ancillary licenses. Except for testing, California state law permits vertical integration of licenses. In other words, one owner could possess multiple licenses, such as a manufacturer, distributor and retailer license.

The basic chain of events for concentrated cannabis to enter the commercial market could involve transferring the cannabis from the nursery, to the cultivator, to the manufacturer, to testing, and finally to the retailer. Distributors must handle the transportation of the cannabis to each licensee. Distributors are also tasked with collecting and remitting the excise tax to the California Department of Tax and Fee Administration (CDTFA). The excise tax is collected from retailers in the amount of 15% of the average market price of the cannabis and cannabis products delivered to retailers. It is imperative that distributors comply with the tax obligations or they may be hit with large penalties, including a 50 percent penalty for late payment or nonpayment.

In a perfect distributor world, retailers would pay the excise tax to the distributor upon delivery. The distributor would then remit payment to the state. However, prompt collection is becoming increasingly difficult given that retailers are pushing for payment (including the excise tax payment) to be due in 30 or 60 days after delivery of the products. If the distributor accepts such terms, the distributor takes on substantial risk because the retailer may pay too late, or may never pay. If a distributor cannot negotiate full payment upon delivery, rather than hope the retailer will make payment, get creative, or mitigate risk.

Many retailers have distribution licenses or microbusiness licenses that include a distribution component. This is the ideal scenario. Rather than, for example, a manufacturer use its distribution license to provide product to the retailer, the manufacturer-distributor can provide the product to the retailer’s distributor. The retailer can then use its distribution license to put the product into the commercial market. If managed correctly, the excise tax responsibility would be shifted to the retailer’s distributor.

If the retailer does not have a distribution license or microbusiness license with a distribution component, some risk could be shifted to the retailer contractually. For example, if the retailer insists on payment terms of 30 days after delivery of cannabis products, a manufacturer-distributor could agree to the terms and include a provision that if the manufacturer-distributor incurs any excise tax penalties, the retailer must reimburse the manufacturer-distributor an amount equal to such penalties.

Finally, a distributor could limit its risk by requiring that only the excise tax be paid for upon delivery, while the remaining payment for the products could be due in 30 to 60 days.

The point—there are ways to minimize the risk of not collecting an excise tax and subsequently incurring heavy penalties. Distributors should think about implementing them into their contracts and procedures.

Cole MorganCole Morgan

Cole Morgan

Mr. Morgan practices real estate and corporate transactional law, including negotiating and drafting agreements, conducting due diligence, and advising on legal and compliance issues. He represents a wide range of companies, from start-up businesses in need of formation and negotiation of initial transactions, to mature companies that require complex reorganizations.

Mr. Morgan has assisted numerous clients in the cannabis industry of all license types, including vertically integrated companies, with their commercial real estate and corporate needs. His experience includes property acquisition, leasing, joint venture agreements, corporate reorganization, structuring investments, and many other transactional matters.

He has assisted in negotiating some of the largest cannabis-related leases and property acquisitions in California, including all leases filling a multi-building industrial project of over 200,000 square feet in Desert Hot Springs, lease of an industrial building of over 100,000 square feet in Long Beach, and purchase and sale of an 85,000 square foot distribution and manufacturing facility in West Sacramento.

Recently, Mr. Morgan successfully closed the sale of a cannabis retail license and related leasehold interest located in Santa Ana, California, on behalf of the selling parties. The purchaser, Planet 13 Holdings, Inc., is a leading vertically integrated publicly traded cannabis company.

Mr. Morgan has been selected to the 2020 Southern California Super Lawyers Rising Stars list. In addition to his professional achievements, Mr. Morgan is involved with StandUp for Kids, a nationally recognized non-profit charity that finds homes for homeless youth across the country and educates them on entrepreneurship and business formation. Mr. Morgan serves as a mentor and regularly lends his legal perspective at StandUp for Kids events throughout the year.

Mr. Morgan is the co-founder of the Newport Coast CBD Invitational, a golf tournament at Pelican Hill benefitting the Infinite Hero Foundation, an organization committed to helping our veterans using innovative technologies.

Prior to joining Stuart Kane, Mr. Morgan practiced corporate and commercial real estate law with Madden, Jones, Cole & Johnson.

He can be contacted through his email: [email protected]

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