Noah Smith, Associate at The Volkov Law Group, rejoins us for an interesting blog posting on the compliance challenges for financial institutions and other businesses involved in legal marijuana transactions. Noah can be reached at [email protected].

The quasi-legal status of marijuana in today’s United States is raising serious questions about federalism and enforcement for U.S. financial institutions. It is well known that marijuana is still classified as a Schedule I substance under the Controlled Substances Act (“CSA”). Simultaneously, however, ten states and the District of Columbia have legalized marijuana for recreational use, and an additional twenty-three states permit medical marijuana. As the legal marijuana industry in these states has grown, marijuana cultivators and dispensaries have become appealing customers for banks, credit unions, and other financial service providers. The financial institutions that agree to open accounts for the legal marijuana industry, however, face a minefield of legal risks and compliance challenges. To name just a few, financial institutions that engage with the marijuana industry are technically (1) aiding and abetting violations of the CSA; (2) violating the federal money laundering statute, which forbids knowingly conducting financial transactions that involve the proceeds of illegal activities; (3) violating the federal unlicensed money transmitter statute, which forbids knowingly transferring funds derived from illegal activities; (4) violating the Bank Secrecy Act (“BSA”), which requires financial institutions to report their customers’ suspicious behaviors to the Treasury Department; and (5) committing “racketeering” activities under the Racketeer Influenced and Corrupt Organizations (“RICO”) Act. Put simply, they are operating in violation of federal law.

To help clarify this turbulent legal landscape, the Justice Department (“DOJ”) and the Treasury Department’s Financial Crimes Enforcement Network (“FinCEN”) have since issued legal guidance documents. This sum total of this guidance, however, has resulted in an ongoing state of confusion, as many important legal questions and practical considerations remain largely unanswered. First, the Obama-era DOJ issued guidance on this topic (commonly known as the “Cole Memos”) generally deemphasized the enforcement of federal marijuana laws, leaving individual states to experiment with legalization and determine for themselves how to handle marijuana-related offenses. At the same time, however, the Cole Memos stressed that heightened scrutiny would continue to apply to financial institutions that transact with the legal marijuana industry, stating that “[f]inancial transactions involving proceeds generated by marijuana-related conduct can [still] form the basis for prosecution under the money laundering statute . . . the unlicensed money transmitter statute . . . and the BSA.” Nevertheless, the Cole Memos noted that financial institutions are unlikely to be prosecuted for providing services to legitimate, state-licensed marijuana businesses, so long as they strictly adhere to the principles set forth in FinCEN’s concurrently-issued guidance document.

Seeking to illuminate how financial institutions can do business with the legal marijuana industry while complying with federal law, FinCEN provided a set of guidelines explaining the increased level of due diligence that is expected from financial institutions that offer services to “marijuana-related businesses.” For instance, FinCEN requires financial institutions to (1) confer with state authorities to verify whether the marijuana-related business is licensed and registered; (2) catalogue and review all documentation regarding the marijuana-related business’s license application; (3) document the types of products that the marijuana-related business will sell, such as plant material versus food products; and (4) document the types of customers that the marijuana-related business will serve, such as medical customers versus recreational customers. In addition, FinCEN itemizes an extensive list of marijuana-related “red flags” that financial institutions must monitor for, including but not limited to (1) rapid fund transfers; (2) large or frequent cash deposits; (3) deposits by seemingly unrelated third parties; (4) discrepancies in the amount of revenue generated compared to local competitors; and (5) non-descript accountholder names, such as “consulting,” “holding,” or “management” companies.

The greatest challenge with FinCEN’s guidance is that it does not define what “marijuana-related businesses” are. Clearly, the term applies to companies that deal directly with marijuana plants in some way, including growing operations and dispensaries. It remains an open question, however, whether the companies that provide services to cultivators and dispensaries, including law firms, accounting firms, tech companies, landlords, carpenters, plumbers, electricians, private security companies, and all other vendors, are also considered marijuana-related businesses. This second tier of businesses, which are one level removed from physically handling marijuana plants, are being paid with the proceeds of activities that are still unlawful at the federal level, so their funds are technically tainted. Since FinCEN does not distinguish between actual marijuana companies and the indirect businesses that service them, it remains the prerogative of each individual financial institution to determine on a case-by-case basis whether it will attempt to brave the mountains of red tape by engaging with companies that could be included within the term “marijuana-related businesses.” Most financial institutions have decided that it is simply not worth the headache. As a result, a large number of professionals have been unable to access the financial system because they are doing business with marijuana growers or dispensaries. In some cases, they have even lost access to existing accounts, forcing them to pay their employees, bills, and taxes in cash. In response, a growing chorus of market observers, industry leaders, and members of Congress alike have called upon DOJ and FinCEN to better define the scope of the term “marijuana-related businesses.”

In January 2018, this already uneasy equilibrium was upended when the Trump administration revoked the Cole Memos through what has become known as the “Sessions Memo,” effectively overturning whatever degree of safety from prosecution that the Cole Memos had provided. Now, federal prosecutors can decide for themselves whether those who engage with the marijuana industry should face charges. Complicating matters even further, FinCEN has stated that its guidance, despite being explicitly based on the Cole Memos, remains in effect and continues to control outcomes for financial institutions. Most recently, the newly-seated U.S. Attorney General, William Barr, stated during his confirmation hearing that he intends to respect and uphold the (now rescinded) Cole Memos, but he also equivocated, noting his belief that protecting companies from federal prosecution promotes disrespect for the federal marijuana laws. Confusion has ensued, and financial institutions have become even more hesitant to touch the marijuana industry’s money. Many are waiting to see how Attorney General Barr will handle the issue.

For now, the ongoing tension between federal and state law has triggered an enforcement stalemate. Financial institutions that are considering taking on “marijuana-related businesses” as their customers must pay close attention to a dynamic situation and evaluate their capacities to implement demanding oversight measures and bear increased risks. Financial institutions have often inquired whether there are concrete examples of cases where such activities have been prosecuted, and the current answer appears to be “no.” With the rapidly changing enforcement priorities, however, there are no guarantees. While FinCEN has attempted to provide a path toward compliance, it is a path containing many potential pitfalls. Other companies that transact with the legal marijuana industry must tread carefully as well, as being categorized as a marijuana-related business under current federal guidance could lead to added scrutiny and jeopardize relationships with banks and credit unions. Until federal enforcement authorities clarify their intentions or Congress clarifies the law, the financial institutions that bank marijuana money are continuing to operate in a legal gray area.