Everyone involved, or thinking about becoming involved, in the cannabis business is aware of the conflict between the laws of those states legalizing marijuana and the Controlled Substance Act (the “CSA”). The CSA is a federal law making it illegal to manufacture, distribute or dispense a controlled substance. For purposes of the CSA, marijuana is classified as a Schedule 1 controlled substance – making it illegal under federal law to be engaged in the marijuana business regardless of what state law provides.
The obvious consequence of this conflict of laws is the potential for federal prosecution for engaging in the marijuana business. However, the not-so-obvious practical consequences reach further than you might think. For example,
- Taxes. Section 280E of the Internal Revenue Code, originally targeted for illegal drug dealers, prohibits cannabis businesses from deducting typical business expenses, such as advertising and rent.
- Leases. Most leases have covenants against “illegal activity,” which enables landlords to evict marijuana business tenants. Moreover, many landlords are unwilling to rent to marijuana businesses, despite their legality under state law, for fear of losing their property in a federal civil asset forfeiture action.
- Banking. In 2014 the Department of Treasury issued guidance for financial institutions that want to do business with the marijuana industry. Up until that time, banks were reluctant to deal with the marijuana business due to the Financial Crimes Enforcement Network (FinCEN), which requires banks to investigate their customers and to refrain from negligently or knowingly doing business with bad actors. Today, banks are safe if they follow some pretty onerous rules. Many banks choose not do business with the industry rather than comply with the diligence and monitoring requirements set forth by the Department of Treasury.
- Commercial loans. Commercial loans are difficult to obtain without providing collateral; however, in a marijuana business, banks are not allowed to seize or possess the primary asset of a marijuana business – the marijuana – under federal law. Often a marijuana business will not have many other assets that are valuable enough to act as security for financing.
- Trademarks. Because marijuana is illegal under the CSA, and because the United States Patent and Trademark Office will not register a mark if the applicant cannot show lawful use of the mark in commerce, it is nearly impossible to secure federal registration of a marijuana-related mark (although marks for ancillary products might be obtained).
- Federal Water. Many areas in the western United States are served by the Federal Bureau of Reclamation, which manages water and power to farmers. The Bureau has advised that it will report to the Department of Justice any marijuana farmers who use federal water to irrigate their crops.
- Bankruptcy. At least two courts have held that marijuana businesses cannot take advantage of federal bankruptcy laws. The rationale is that, because marijuana is illegal under federal law, granting relief under another provision of federal law for the same activity would be “administering the fruits and instrumentalities of Federal criminal activity.”
- Access to Federal Courts. If you enter into a contract with a marijuana business and need to sue in federal court, will you be able to? This question has yet to be answered; however, if the prohibition against bankruptcy relief serves as guidance, the outcome is likely not favorable to marijuana businesses.
It is clear that federal law creates many obstacles to establishing and effectively managing a marijuana business. Those in the industry should plan carefully and seek legal advice as to how to best mitigate the risks arising from the conflict between state and federal laws.