As I mentioned in a prior post (see here), we have been fielding regular inquiries from international cannabis companies that want to engage with the U.S. market by selling raw hemp or cannabis, distillates (including cannabinoids), and products, including products that have been proven in their home markets.
In this article:
- How to Enter the U.S. Market
- International and Domestic Taxation
- Geography Issues for International Companies Seeking to Enter the U.S. Market
How to Enter the U.S. Market
High-Level Strategic Information
As a business transactions lawyer, I am accustomed to business owners asking for insight and advice that goes far beyond legal considerations. Generally, international cannabis companies want advice on whether and how to partner with domestic companies, which domestic markets are particularly attractive, which state laws and regulations give international companies the maximum flexibility (regarding financing, licensure, and product sales), and which state laws and regulations are particularly problematic (or prohibitive like Washington) for international companies.
Other considerations include which financial institutions, insurance companies, transportation and logistics companies, accounting firms, payment processors, marketing companies, and web development companies are friendly to the cannabis industry and have a good track record of customer service.
Ways to Enter the U.S. Market
Most established international companies are either looking to partner with a U.S. company in some type of contractual or entity joint venture, or they want to establish their own independent presence, with or without a formal brick-and-mortar presence.
Forming a U.S. Entity
The initial question is whether the international company needs to or must set up a U.S.-based entity. Some states will require a U.S.-based entity. Some states will even require a licensed cannabis (marijuana or hemp) business to be formed in their own state, while others will permit another state’s entity to merely qualify to do business in their state.
Finding the Right U.S. State
Cannabis companies need to consider several issues when deciding upon the U.S. base of operations. Initially, you want to form your entity in a state that has favorable taxation, general business laws, and clear cannabis business policies. Some of this will depend on your intended business market. Another prominent question is whether you have a good reason to form a Delaware company (generally if you anticipate bringing on institutional investors (like venture capital) at some point) (see here and here).
Ownership of the U.S. Entity
If a new entity needs to be formed, then the second question is whether that new entity should be a wholly-owned subsidiary of the foreign parent or whether the underlying owners of the foreign parent want to personally invest in the U.S. company. Generally, we end up advising on forming a U.S.-based entity (LLC or C corp) that will be a wholly owned subsidiary of the parent company in order to minimize the U.S. tax issues for the underlying individual owners of the parent company. Because of IRC Section 280E considerations (see here) with marijuana (not hemp) ventures, we frequently hear CPAs recommend a C corporation “blocker entity” as the primary U.S. investment vehicle.
Find a Good Accounting Firm
All of our international cannabis clients already work with a good CPA firm in their home country. If our client already does business in multiple international markets, then their CPA firm is generally international, as well, and can provide solid guidance regarding foreign and sometimes U.S. tax considerations. If the foreign CPA firm does not have U.S. tax law expertise, then we often provide recommendations based on the foreign company’s intended base of operations in the U.S. A good domestic CPA firm is important to help deal with income, employment, and sales and excise taxes that vary from state to state and even city by city. Do not wait to find a good accounting firm in the U.S.
International and Domestic Taxation
The first level of taxation inquiry when looking to do business in the U.S. is to determine whether your home country is one of the 68 that has a bilateral tax treaty in place with the U.S. (see here for the IRS’ definitive list). The “tax” purpose of these tax treaties is to ensure taxable income is accounted for so that it can be taxed. The “treaty” part of the tax treaties refers to the agreement between the countries that their respective taxing authorities will apply certain reduced tax rates or entirely do away with other tax rates so as to avoid double taxation, fostering a more favorable business environment between the two countries.
IRC Section 280E
In the U.S. where cannabis as marijuana (> 0.3% THC content) continues to be illegal at the federal level, the IRS (Internal Revenue Service) keeps an eye on cannabis company taxation issues, particularly Section 208E of the Internal Revenue Code that deals with acceptable business deductions (cost of goods sold or COGS) for illegal enterprises (See 26 USC Section 280E. Expenditures in Connection with the Illegal Sale of Drugs). Section 280E is extremely important to cannabis (marijuana) companies, and their CPAs have the code section memorized.
Section 280E is less crucial for companies that are purely working with cannabis as hemp (< 0.3% THC). This is due to the 2018 Farm Bill that effectively legalized hemp by removing it from the definition of marijuana as a scheduled controlled substance. So companies that are purely dealing with hemp will find that their U.S. federal taxation issues are not significantly different from any other legal business industry in the U.S. That does not make U.S. taxation simple – only less complicated and more profitable due to the tax savings from being able to deduct normal business expenses.
State Tax Issues
For international cannabis companies looking to sell at retail in the U.S., whether through brick-and-mortar or through e-commerce sales, most of your (non-employee) U.S. tax concerns will center on U.S. state sales tax. Each state within the U.S. has its own sales tax rate, and each city and town generally has its own additional sales tax, so your U.S.-based accounting firm’s assistance will be crucial in ensuring you are withholding and paying the correct amount of sales tax for each transaction.
This helpful graphic and chart from the Tax Foundation will give you a good overview of US sales tax. Fortunately, U.S. sales tax is rarely as high as many international jurisdictions (for instance, 20% sales tax in Switzerland compared to 10-12% in some parts of Washington state).
You may owe business income tax in many U.S. states, depending on your level of activity in those states. Basically, wherever your customer is located, you will be responsible to collect and remit sales tax in those states.
Cannabis-Friendly CPA Firms
Lawyers are risk-averse by nature. Accountants are the even more risk-averse cousins of lawyers. So you can imagine that finding a good CPA firm that understands international tax issues, federal tax issues (including IRC Section 280E), the difference between a marijuana business and a hemp business, state income tax, state sales tax, state and federal employment tax, etc., AND has a good head for business is as difficult as it is important. I know a few, but they are rare.
Are Lawyers More Important than CPAs?
I love to ask my CPA friends this question. Obviously, the answer is yes if I am answering the question, but we are really two straps to the same pair of suspenders. When you as an international cannabis business owner are looking at the U.S. market, you need to find a good law firm and a good CPA firm, and you need your CPA firm involved at least as early as your lawyers. You need to do this so that both your lawyers and your CPAs can strategize with you regarding your business plan to take advantage of the optimal intersection of state cannabis laws, regulations, and enforcement regarding your cannabis activities, as well setting up operations in the states with a favorable business environment where corporate and franchise taxation are low or nonexistent.
Geography Issues for International Companies Seeking to Enter the U.S. Market
Where to locate your business?
If you have spent any time in the U.S., you know that it is very easy to travel from one state to another and that, except for weather, geography and regional cultural differences, the U.S. feels quite homogeneous. That means that as a business owner you will want to focus on where your customer base will be and whether you need to be near your customer base or can do your business from a nearby state.
For retail businesses, you will need to set up shop where your customer base is. For wholesale or e-commerce companies, you have more flexibility on where to set up your base of operations. Even retail businesses can set up operations in another region or state if it makes sense.
For instance, if California were a sovereign nation, its economy would be the 5th largest in the world. That makes California extremely attractive to businesses. But California also comes with a host of potential negative issues in both the cannabis and non-cannabis realms, whereas Nevada, which is next to California, has more favorable cannabis laws and regulations and a favorable enforcement history. Nevada’s employment laws favor employers, with much fewer regulations (including business tax levies) to deal with than California.
Ease of transportation logistics.
Most products in the U.S. travel by semi-trailer truck. If your cannabis-hemp business will have multiple locations in multiple states, or if you will be shipping directly to customers in multiple states, then you will want to consider locating close to good road transportation infrastructure. Las Vegas is situated on the I-15 freeway corridor and is only 6-8 hours from the major California and Arizona markets; 12 hours from Colorado, and 18 hours from Washington.
Looking to the eastern US, locations such as Nashville, Tennessee, and Atlanta, Georgia are strong candidates for a logistics hub because each is within 12-18 hours of retail markets from Boston, Massachusetts) to Miami, Florida, and many midwestern US states.
U.S. employment generally.
Each U.S. state has its own employment laws, with some states heavily favoring employee rights and others more favoring the employer. This is generally reflected in state employment tax and insurance requirements.
As noted above, Nevada is very employer-friendly, while California is extremely employee-friendly. Tennessee and Georgia are each employer-friendly states.
Depending on your business needs, you should consider whether the location of your business center or your logistics hub will be more important than the location of your employees. Consider the roles of your employees. You may prefer to have an employee based in a different geographic area than your retail locations or your logistics hub.
When you are considering employees, it is generally best to hire in an employer-friendly state as you test the U.S. market for your products.
Is state registration required?
Once you determine the geographic scope of your business, you need to determine whether you need to register to do business in a particular U.S. state, even if you are only storing products and conducting e-commerce in that state.
Each state will have its own department of labor (regarding employee matters), department of revenue (regarding taxation matters), department of commerce (regarding general business matters), and cannabis regulatory department (which could be under a state’s department of agriculture, department of alcohol and tobacco, or another specialty department).
Your particular activities within each state will dictate with which departments you need to register. You will find that most state departments are extremely accommodating, so you should plan to reach out early in your decision process. That is especially true if you are undecided as to which U.S. states will be optimal for your initial business operations.