From Triage to Full Health: Resolving a Cannabis Company’s IRS Audit with a Wellness Check

How 420CPA Helped a California Cannabis Business Reduce Its Tax Liability

Client Overview: A California Cannabis Microbusiness Under Audit

A California-based cannabis microbusiness, licensed for cultivation, manufacturing, distribution, and retail, found itself under significant financial stress when the IRS audited its 2019-2021 books. The IRS reclassified the company as solely retail, disallowing manufacturing-related COGS (Cost of Goods Sold) and demanding over $4 million in back taxes and penalties.

The Challenge: Misclassification and a Growing Tax Liability

The company’s initial classification included both manufacturing and retail, but the IRS’s reclassification to retail-only resulted in substantial penalties for negligence and major tax liability. The owners, recognizing that the audit process was spiraling out of control, sought expert guidance.

For cannabis businesses facing similar tax challenges, understanding IRS tax compliance for the cannabis industry is crucial.

Solution: How 420CPA Took Control of the Audit

Step 1: Conducting a Cannabis Business Wellness Check

At the recommendation of a Chamber of Commerce colleague, the company contacted 420CPA for a Wellness Check—a low-cost, neutral assessment of the audit’s progress.

420CPA’s team quickly identified that much of the required documentation had not been submitted, which had led to communication breakdowns with the IRS.

What is a Wellness Check?

A Wellness Check is a structured evaluation that helps cannabis businesses assess financial health, identify compliance risks, and develop a clear audit response strategy.

For cannabis operators, proactive financial oversight is essential. Learn more about Verdant Strategies’ CPA & Advisory Services.

Step 2: Rebuilding Trust with the IRS Through Documentation

420CPA took full control of the audit, meticulously organizing and submitting receipts, ledgers, and supporting financial records. Their approach:

• Ensured full documentation compliance with IRS requirements
• Established trust with IRS agents through in-person meetings
• Over-delivered on missing records, improving communication

By leveraging 420CPA’s “high impact—low confrontation” method, the IRS shifted from an adversarial stance to a more collaborative approach.

Cannabis operators facing an IRS audit should consider early intervention. Read more on why accurate cannabis tax reporting is critical.

Impact: How Proper Audit Management Turned the Case Around

Once 420CPA took the reins:

✅ Full documentation submission improved the IRS’s stance on the audit
✅ A 30-day extension was secured after the company’s controller resigned
✅ Ongoing discussions suggest a 70-85% tax reduction
✅ Negligence penalties may be waived, saving the company millions

This approach protected the microbusiness from a devastating financial outcome and positioned it for future compliance success.

Lessons from the Case: The Role of a CPA in IRS Audit Resolution

When an audit becomes adversarial, having the right CPA firm can make all the difference. 420CPA’s expertise in cannabis tax law and IRS procedures allowed them to:

• Correct misclassifications affecting the company’s tax liabilities
• Facilitate clear communication with IRS agents
• Implement better record-keeping practices for future audits

For cannabis operators, engaging with a specialized CPA firm like 420CPA ensures compliance with tax codes and reduces financial risks.

The Advantages of a Cannabis Business Wellness Check

When should you request a Wellness Check?

• If your IRS audit is not progressing well
• If your business faces compliance risks
• If you need an external financial assessment to prevent future tax issues

Rachel Wright emphasizes the importance of trusting your instincts as a business owner. A Wellness Check offers clarity before financial problems escalate.

For cannabis businesses preparing for tax season or facing IRS inquiries, a proactive CPA strategy is key.

Take Action: Protect Your Cannabis Business Today

If your business is facing an IRS audit or you’re unsure about your financial standing, a Wellness Check can provide immediate clarity.

Contact 420CPA today to schedule a consultation and ensure your cannabis business stays compliant and financially secure.