Professional Growth
Cannabis Business Continues to Grow as Regulations Lag
January 12, 2024
Cannabis has become big business, but it remains an area of legal uncertainties given the federal prohibition
on the cultivation, sale, and use of marijuana.
“Legislation has and continues to impact cannabis business,” said Jonathan A. Webb, senior associate at Kinner & McGowan, PLLC, one of the District’s premier cannabis law firms, during a D.C. Bar CLE program last month. “As of this year, there are 38 states, three territories, and, of course, the District of Columbia that now allow medical use of cannabis.”
And, to date, 24 states, two territories, and the District of Columbia have legalized recreational marijuana use.
New markets have contributed to growing sales, with the legal U.S. cannabis market hitting $30 billion in 2023.
“Unfortunately, as state and local governments turn on to the benefits of cannabis, legislation has done its best to keep the industry in the dark ages. Most businesses are forced to be cash-only operations, making them vulnerable to thefts and other criminal acts,” Webb said. “In addition to these vulnerabilities, there are significant tax implications that lead business owners, often, to hoard cash to be able to make tax payments, making it difficult to expand or give raises to employees.”
A History of Regulation
A brief history of cannabis legislation illustrates the broad range of approaches taken by the government in regulating the crop’s production and use. Webb described how the first cannabis laws ironically compelled its production, pointing to a 1619 Virginia Assembly law that required all Jamestown settlers to grow hemp.
Domestic production continued to thrive through the Civil War, and cannabis became a popular ingredient in medical products after the conflict. However, following the Mexican Revolution in 1910, there was a massive influx of Mexican immigrants to the United States. Webb described how xenophobia associated Mexican immigrants with cannabis use and led to the country’s first anti-drug campaigns.
“Shortly thereafter, there was the Great Depression, and Mexicans became scapegoats for problems like the lack of jobs and the flailing economy,” Webb said.
The federal government responded with the creation of the Federal Bureau of Narcotics in 1930, appointing a passionate anti-marijuana advocate as the bureau’s first commissioner. Six years later, the film Reefer Madness was released.
“Reefer Madness is largely looked upon as a comedy now because of how it greatly exaggerated the dangers of marijuana, but, at the time, it was pivotal to the anti-marijuana effort,” Webb said.
In 1937 Congress passed the Marijuana Tax Act, effectively criminalizing marijuana, restricting possession to those who paid an excise tax. In response, then New York City mayor Fiorello LaGuardia asked the New York Academy of Medicine to produce a report on marijuana, which would debunk many of the myths arising from the Reefer Madness period, but the report failed to produce a change in the status quo.
The post-World War II period led to the passage of laws establishing minimum penalties for marijuana offenses. While the Controlled Substances Act was being drafted in 1970, the assistant secretary of health at the time recommended that marijuana temporarily be classified as a Schedule I drug, the most restrictive category, pending a report by the Shafer Commission appointed by President Nixon. Surprisingly, the commission called for the decriminalization of marijuana. Nixon ignored the recommendation.
Banking Barriers
Several financial regulations are the source of many contemporary challenges involving cannabis business, Webb said. For example, the Money Laundering Control Act of 1986 made financial transactions involving marijuana a felony.
Banks and fintech firms transfer funds through “master accounts” handled by federal financial institutions. Because marijuana is illegal under federal law, the handling of funds related to cannabis business by financial institutions employing master accounts would make the federal government complicit with the circumvention of its own laws.
“Because the Federal Reserve ensures financial institutions comply with federal laws, they don’t allow master accounts to handle cannabis-derived funds,” Webb said. Credit providers face the same obstacles to engaging with cannabis-related businesses.
This lack of access has led most cannabis businesses to deal in cash only. Doing so prevents cannabis businesses from deducting expenses, driving up costs significantly. Cannabis businesses are taxed on gross income, with the only available deduction being the cost of goods sold. This limits growth and creates vulnerability to theft, Webb said.
More recently, the Secure and Fair Enforcement (SAFE) Banking Act of 2019 and its successor legislation, the Secure and Fair Enforcement Regulation (SAFER) Banking Act of 2023, have attempted to provide protections for federally regulated financial institutions serving state-sanctioned cannabis businesses.
“Despite SAFER’s broad bipartisan support, there is significant opposition,” Webb said. The Senate Banking Committee advanced the act in September 2023.
Outlook for Change
Webb proposed some solutions for the current conundrum facing states and cannabis businesses. The first is to form a self-contained state-chartered banking system that would not be subject to the federal barriers to cannabis-related banking and credit. State-initiated data portals could also be helpful in ensuring compliance, he said.
Several potential changes lie ahead. Webb drew attention to a handful of cases whose outcomes could impact cannabis regulation in the coming months. In Canna Provisions, Inc. v. Garland, pending before the U.S. District Court for the District of Massachusetts, the plaintiffs argue that the interstate ban on marijuana is unconstitutional.
In Ann Marie Borges v. County of Mendocino, the U.S. Court of Appeals for the Ninth Circuit dismissed the plaintiffs’ due process claim arising from the allegedly arbitrary and capricious denial of their application for a cannabis cultivation permit, holding that there was no federally protected property interest in marijuana cultivation. The plaintiffs have sought review by the U.S. Supreme Court, specifically to revisit its 2005 decision in Gonzalez v. Raich, which affirmed the supremacy of the Controlled Substances Act over state legalization statutes.
Referring to the decision in Raich, Webb said, “I cannot overstate its significance.”
