Among the most common issues preventing prohibition-era cannabis entrepreneurs from transitioning into legal markets is a lack of financial records.
The reason, Jessica Velaquez says, is fairly obvious.
“Before, that would have been documenting criminal activity and in some jurisdictions the documentation itself would have been an additional crime,” Ms. Velaquez, managing partner of a Certified Public Accounting (CPA) firm based in Las Vegas called Indiva Advisors LLP, said in an interview.
“We are a standard CPA firm in that we offer accounting, tax and financial advisory services, but we specialize in the cannabis and hemp industries only. We don’t dabble in other industries,” she said, noting her firm now includes 10 staff with four full-time CPAS since the business “was born out of my kitchen table three years ago.”
Forensic accounting, the process of rebuilding missing or incomplete financial records, is frequently employed by Indiva when taking on new clients. That process can go much more smoothly, Ms. Velaquez said, if potential clients keep a few pieces of advice in mind. Her suggestions, reproduced below in her own words, have been lightly edited for length and clarity.
If you only have partial or incomplete records, don’t even bother
It is often more costly to jump in at the midpoint of trying to repair poorly assembled financial records. Trying to piece together whether it is even accurate and where it came from and three, the real kicker, has it been reported to any government already? Then it is even more challenging because if we learn that certain information had been reported somewhere already, we would have to go back and file amendments to all of those reports.
That is not to discourage people from coming in with whatever books or records they have, but if it is really only partial and incomplete and we are getting less than, call it forty or fifty per cent of the information we need, I would almost rather just start from scratch. That also mitigates risk from the CPA perspective.
Be prepared to disclose everything about your business, not just the financials
The first question I always ask is tell me about your process, I need to know everything about the entire business. What is your accounting software? Who is doing the actual data entry? What are the procedures around supporting evidence like invoices, a cash log, all of your SOPs. Step one is really, keep everything. I need to be able to go in there and validate if we are looking at incomplete records or stepping in to clean up books and records. And if we are starting from scratch then at least something to start with. Receipts, invoices, all of it.
Once we have engaged, we come into their process and look at all of the supporting evidence and we start asking questions if we determine some information might be missing. Assuming though that all the supporting evidence is there then we are just trucking along and recreating the books and records.
We do analytical reviews to ascertain additional questions we may want to ask outside of just the supporting evidence. They might say here are all of our invoices and everything else we have, we might come back to them after entering all of that information and say maybe one cash account doesn’t make much sense, the balance doesn’t match with the invoices we’ve entered. Based on those analytics, once we step back from the data entry and look at the actual accounting, then we can say, hey, are you sure this is right? Is there another piece of supporting data to confirm this? And if there isn’t, then can we be comfortable saying this is accurate?
Expect an asterix on your return
We try to help everyone as best we can with the information we have available to us and the analytics we perform and those accounts, should they need them. Often, though, we are issuing disclosures.
Let’s say someone comes to us and says they have to file a few years worth of tax returns, their books and records are a mess and they don’t have much in the way of supporting data, we will do our absolute best to recreate the books and records that they have, but in their tax returns, we will also have to include a disclosure telling the IRS that we have prepared this tax return to the best of our ability with the information provided and we have made inquiries of the client where necessary, where we saw gaps of information. It may prompt an audit so most clients don’t like the disclosure, they don’t want it included since it is almost a bit of a red flag, so to speak.
I would not sign a tax return without that disclosure if the situation warrants it, which is not all the time but maybe 20 per cent of the time, so consistently. And if I were to compare that to any other industry, it is maybe two or three per cent.
Clients are going to go and shop around. If you’re going to a smaller practitioner or a sole practitioner or someone who hasn’t really worked in the cannabis industry before or other high-risk clients, they wouldn’t even know to include that disclosure necessarily. The person who signed that tax return would then face repercussions. Clients definitely need to do their due diligence on their advisor, it comes down to that as well.
Brace for a long, collaborative process
As an example, we are currently working on a project with a client that came to us about a full year ago now. They had four legal entities, plus their personal returns that they had not filed for four years. That is approximately 20 tax returns and we are just in the process of filing those now. Here is the thing, we have to go back and forth a bit. We ask them what supports they have, then we need to recreate them, then we need to clarify certain things, ask for additional supporting evidence, we forgot this account and this account. It is a process of really whittling down to the extent that we can file the most accurate return possible.