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Webcast Speakers: Cannabis Legalization Passed, But Much Remains To Be Done

Chris Gaetano
Published Date:
Apr 22, 2021

A panel of speakers at a recent Foundation for Accounting Education webcast on April 21 said that New York's passage of the recreational cannabis legislation is only the beginning, as there remains much to be done for not only the government but business owners as well. The event, called "The New York State Marijuana Taxation and Regulation Act: What CPAs Need to Know," examined the new law from a compliance, tax and labor perspective, as recreational cannabis touches all these realms.

Melissa N. Subjeck, the hemp and medical cannabis practice co-leader for law firm Hodgson Russ, noted that much of what is being discussed will hinge on the actual regulations that will come from the Office of Cannabis Management (OCM), the new agency created to govern the industry. She said that this process will likely take months, "not weeks or days," given that the office hasn't even been formed yet. With this in mind, though, she said that the legislation itself can give a good picture of the overall structure. This is particularly the case with licenses. There are 11 possible cannabis industry licenses for which one may apply.

These licenses include: adult use cultivators (the ones actually growing the plant); adult use processors (the ones turning the plant into products for sale, such as edibles or concentrates) ; adult use distributors (the ones who transport the products to retailers); and adult use retail dispensaries (the ones selling the products to consumers); delivery services; and nurseries. She added that there are also licenses for registered medical marijuana businesses, who will essentially be grandfathered in to the new legal regime.

New York does not allow for vertical integration, with the exception of very small businesses, meaning that, in general, one cannot be both a retailer and a producer.

"The purpose here is to provide some space for new companies," she said. "The severe limits on vertical integration are basically there to keep large companies from dominating the market." 

Patrick J. Hines, the other Hodgson Russ co-leader of the hemp and medical cannabis practice, noted that the legislation defines vertical integration very broadly for this purpose. Beyond just being both a producer and a retailer, the New York prohibition encompasses any direct or indirect interest, which includes stock ownership, interlocking directors, mortgages or liens, personal or real property, management agreements, sharing a parent company or affiliated organization. This means that even if a producer does not have a retail license, or vice versa, that person will still be considered to have vertical integration should he or she take a controlling interest through these means as well.

"We want to give the little guy an opportunity to participate in this space and prevent moneyed interests from capturing too much of any one sector of the market," he said.

These conditions mean that producers cannot give loans or gifts to retailers to convince them to use their product, and there cannot be agreements with retailers to exclusively offer a product, or any other kind of collusion. He also noted that, if a distributor also holds a cultivation processing license, which is allowed, then the entity can distribute only its own cannabis, which it cultivates and processes itself.

Meanwhile, no one is allowed to own more than three retail locations. Each location will need its own separate license. And there will be no transferring of licenses from one owner to another without the express permission of the OCM, so large out-of-state interests can't simply come in and buy up people's licenses. A change in ownership, a substantial corporate change, or a change in location without prior approval will void the license. However he said that the government hasn't explicitly defined what a transfer is,  so it is unknown if, say, a franchise counts. But he speculated that the definition will probably be very broad.

Given these very broad definitions of vertical integration and control, Hines said it would behoove clients to structure their agreements very carefully.

"So, [that is] something to be very careful about as you structure agreements," he said. "There will be clients looking to grow, but there are going to be a lot of regulations that will cost a lot to comply. When that happens, from a business perspective, you have to get bigger, especially in a market like this where the margins are very thin." He added that the OCM will need to strike a careful balance between preserving the local market and allowing for growth.

Hines also talked about how what seems a prosaic part of the law, no sales to people under 21, isn't so simple. For one, in contrast to other laws, it is on defendants to prove that they reasonably relied on a photo ID that appeared to be issued by a government entity, which he said should largely be done through record-keeping. This means the need for written policies and training on how to prevent underage people from buying their product, at the very least.

Diligent record keeping will also be important in complying with another part of the law: employee demographics. As part of the social justice orientation of the new law, cannabis companies need to file reports with the OCM when they renew their licenses (every two years) about the diversity of their business; he said license renewal will be contingent on complying with this part. Record-keeping will also be important for another requirement, lab testing.

As any practitioner knows, keeping good records is also a major part of tax compliance, a topic addressed by Christopher L. Doyle, Hodgson Russ's state and local tax practice leader. He said that the state will likely enforce the tax provisions very stringently, as this was a major motivation behind legalization in the first place.

"Sure, marijuana is fine as a recreational drug, but we all know what drives the government to do this," he said. "They can talk about social justice all they want, but what they really want is taxes... If someone wants something, New York wants to tax it." 

This is why, according to Doyle, there are taxes throughout the supply chain. Distributors, he said, are taxed 0.5 cents for every milligram of THC (the psychoactive part of cannabis) in the case of flower, 0.8 cents for concentrates, and 3 cents for edibles. He said that, for tax purposes, if one wanted to eat a cannabis brownie, then the smart thing to do is buy the flower from a dispensary, then take it home and bake the brownies oneself, given that the tax on brownies sold on site are six times higher. The tax kicks in at the time the distributor sells to the retailer, buth he said this will likely require a technical correction due to a "glitch" in the law.

"It says taxes are due at the time of the sale to the retailer, by the distributor, and says how the tax is calculated and talked about how the tax should be reported to the government. It does not actually say the tax is on the distributor," he said. "It doesn't mention who is primarily responsible for the tax. I could make the argument, based on the way the legislation plays out right now, that it could be on the retail seller."

Meanwhile, at the retail level, there is a 9 percent state tax and a 4 percent local tax, which most definitely is the responsibility of the retailer.

Doyle emphasized that while these taxes may look like and operate similarly to sales taxes, which the retailer collects from the customer and sends to the government, CPAs should take care to remember that these are excise taxes directly on the businesses, not the customer. He pointed out, for instance, that the distributor is taxed not on volume, as with sales, but on THC content. Further, there is no "responsible person liability" because there is no fiduciary trust between the state and the seller or the seller and customer.

Despite these differences, he said that the compliance requirements track mostly with the sales tax regime, for instance by following the same quarterly filing schedule as sales tax.

Kinsey O'Brien, a Hodgson Russ senior associate who specializes in employment and labor law, said that businesses will need to rethink their drug policies in the wake of the new law, given that discrimination based on cannabis consumption is no longer allowed.

"Use of cannabis will have to be treated like smoking cigarettes or drinking in the evenings or weekends. It can't be used as a basis for refusing to hire someone, taking disciplinary action against someone or terminating someone's employment," she said.

This doesn't necessarily mean that employers can do nothing, though. There are three exceptions for which someone can still be penalized for usage: if consumption would put the employer in conflict with federal law; if it would make the employer lose a federal contract; and if someone is impaired on the job. But those exceptions themselves have exceptions.

The first two exceptions, she said, only cover jobs that the federal Department of Transportation have specifically designated as a "safety sensitive position." These include jobs such as airline pilot, bus driver, trucker, railroad conductor, pipeline worker, or maritime shipping worker.For the third exception, employers must be able to name articulable and specific symptoms to say that someone was impaired; they can't just say that the person was high.

Overall, O'Brien said that employers should remove cannabis from their drug screening entirely.

Finally, Jack O'Donnell, the president of O'Donnell & Associates, a government relations firm, noted that as businesses prepare for the new law, there is much to be done in Albany as well. The governor still has to nominate, and the senate still has to confirm, an executive director of the OCM; in addition, Albany must appoint members of the Cannabis Control Board. While the governor and legislature said this will be done by June, O'Donnell was skeptical that this would happen, saying that Cuomo has historically been very slow to make appointments. He thought it would be even slower this year, considering the numerous controversies facing the governor.

Even were this to happen by June, O'Donnell said that the OCM will still need to issue regulations, which will take even more time. And on top of that, municipalities have until Dec. 31 to determine whether they want to allow retail dispensaries, meaning people won't even know where it's acceptable to set up until next year. While it is still too early to know what municipalities will decide, he said that, at the very least, Suffolk County Democrats have advocating that every town ban dispensaries while Nassau County Democrats have advocated that every town should have them.

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