Cannabis businesses using employee stock ownership plans to skirt 280E

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When Maryland Gov. Wes Moore signed a law on April 22 exempting employee stock ownership plans (ESOPs) from the state’s strict five-year license-hold requirement for cannabis businesses, he opened up an exit strategy for founders.

He also created a strategy that enables marijuana companies to bypass Section 280E of the Internal Revenue Code.

ESOPs are a tool that cannabis businesses in other states have been taking advantage of since about 2023, when Massachusetts-based Theory Wellness put its program into place. Another Massachusetts cannabis company – The Vault – followed a few days later.

“An ESOP is just another way to sell your company,” said Darren Gleeman, managing partner of New York-headquartered ESOP investment bank MBO Ventures, who worked with both companies on their deals.

“You can sell to a private equity firm, a strategic buyer or to employees via an ESOP.”

An ESOP transaction allows owners to sell their company stock to an ESOP trust, deferring capital gains taxes on the proceeds. The trust holds the stock for the benefit of the company’s employees.

Funding for the deals can come from existing cash, external loans or seller financing. The company’s tax savings can be used to repay the debt.

Avoiding marijuana taxes isn’t only benefit

In addition to giving founders an exit plan, Gleeman said, ESOPs allow a marijuana company to keep more of its profits because it doesn’t have to pay income taxes, rendering 280E irrelevant.

But tax relief isn’t the only motivation for cannabis companies to create an ESOP.

When Meg Sanders and Erik Williams started Massachusetts-based Canna Provisions, they wanted to incentivize their employees through a profit-sharing plan.

But they discovered that Massachusetts’ ownership regulations made it difficult.

While attending a conference in 2023, Sanders learned that ESOPs could be a solution.

“We got very comfortable with it very quickly and felt like it seemed to make the most sense,” Sanders said.

“The No. 1 benefit is growing together. That means employees are monitoring the thermostat, turning off lights and paying attention to hours and sales.

“Everyone is committed to the efficiencies of the business because now it’s their pocketbook.”

Theory Wellness Chief Financial Officer Jon Shore said tax relief was one motivation to create an ESOP, but another benefit is that the ESOP gives employees a vested interest in the company’s performance, increasing their dedication to its success.

“Employees feel more empowered and engaged because they’re owners of the company,” Shore said.

“Each employee has a financial interest, which provides the motivation to make more of an effort in the work they do.”

ESOPs aren’t the answer for all cannabis companies, but they are worth investigating, said Hannah King, a Maine-based attorney with the cannabis team at the Dentons law firm.

For an ESOP to make sense, the company must have at least 25 full-time employees and $2 million to $2.5 million in earnings before interest, taxes, depreciation and amortization (EBITDA), according to King.

“When you sell your company to an ESOP, a trust owns the company, but employees are vested into retirement plans built into the trust,” she said.

“As the company makes money, it gets distributed into the retirement accounts.”

How ESOPs can become a marijuana exit strategy

King recalls that when she started in the cannabis industry 10 years ago, founders thought they would sell their companies within three years, although not many did.

Now, there’s even less capital available to purchase marijuana businesses.

“But you can sell to an ESOP, which pays fair-market value,” King said. “Owners also can hold warrants to buy back a certain percentage of the company.”

Michael Botelho, CEO of The Vault, said he initially considered forming an ESOP as an exit strategy as well as rewarding employees who helped build the company.

Although he was skeptical about the strategy at first, Botelho continued to investigate, and The Vault awarded its first round of shares to employees last August – eight months after the ESOP was formed.

“We had rollout meetings and update meetings, so people were cautiously optimistic about it,” he said.

“When we did the first awarding of shares, people started to say, ‘This is real, we’re getting something.’

“It kept them there and focused on doing the right thing for the company as opposed to just another retail job,” Botelho said. “It’s an unfunded retirement plan.”

Margaret Jackson can be reached at margaret.jackson@mjbizdaily.com.