Marijuana: Insurance Risks and Legal Quirks in a Developing Industry

By Kristin Casler, featuring Hilary Bricken and Robert McVay of Harris Moure’s Canna Law Group

While the federal government still considers marijuana an illegal and highly dangerous Schedule I drug, marijuana businesses are flourishing in states around the country that have legalized it. As these businesses develop, they require insurance, banking and legal services, and they need to produce safe, quality products and comply with new and evolving state laws. It’s an uncharted landscape for them and the ancillary businesses that deal with them.

Hilary Bricken and Robert McVay of Harris Moure’s Canna Law Group in Seattle represent many cannabis companies across the country and have watched the cannabis laws change, and they provide some historical perspective and an update on the current state of insurance, contract enforceability, products liability and other issues related to this newly sophisticated business.

Medical v. recreational pot

Twenty-three states and the District of Columbia currently have laws legalizing marijuana in some form. Some states, like Florida, allow only minimal medical marijuana use. California has had a robust and largely unregulated medical marijuana economy since 1996. Some states have decriminalized marijuana possession. Currently, four states—Washington, Oregon, Alaska and Colorado—have legalized recreational use of marijuana (in addition to legalized medical use).

However, the federal government still considers possession, cultivation and distribution of marijuana a crime. The U.S. Department of Justice over the years has issued memos to its attorneys about how aggressively to prosecute federal drug laws. While not binding, the latest memo indicates that the federal government will not move to strike down apparently contrary state laws, nor will it aggressively pursue prosecution in states where the marijuana industry is heavily regulated, Bricken said. The series of memos going back to 2009 have been seen as a green light by the industry, particularly for medical marijuana.

“The entire industry is on pins and needles over this coming presidential election,” Bricken said. “A new president and new attorney general could change everything.”

Legal risks to cashing in

What are the risks for ancillary businesses providing services to the pot business? Bricken said that under the federal Controlled Substances Act, they are technically aiding and abetting the use of marijuana and conspiring to violate federal law—maybe. The law is still quite unclear. It comes down to intent. Do ancillary businesses—those providing insurance and legal services, property leases, etc.—have the requisite intent to be found guilty of a criminal violation? Bricken asked.

It gets more complicated, still, with money-laundering laws. Anyone who accepts funds from an unlawful activity is potentially guilty of a violation if you intended to conceal the source of the money. However, another provision of the same law does not exempt you from prosecution for a lack of intent.

So, attorneys like Bricken and McVay, along with much of the cannabis industry, rely on that DOJ memo and its language about robust state regulation. If you operate in a highly regulated state, the feds, for now, are not likely to pursue prosecution, Bricken said. However, in California, where medical marijuana is not regulated, the prosecution threat is real.

“Everyone is struggling with this,” Bricken said. “We make sure any client we represent is in a state where marijuana is highly regulated. If you don’t have that, we can’t help, as we are at too great a risk. That’s the only risk we’re willing to take.”

Attorneys also need to be aware of ethics rules. Each state is different. Some have said they won’t pursue ethics violations for taking care of your clients, Bricken said. Advising clients is okay, she said. Depending upon the state, assisting them in their business is not.

Contract enforceability

As with any business, the burgeoning cannabis industry has a lot of contracts. Insurance contracts, business and supplier contracts, leases. In fact, several states require cannabis businesses to have insurance in order to operate under state law. Contradicting state and federal laws make it unclear whether those contracts are legally binding, McVay said. If an insurer receives a premium and then has a claim, is that claim enforceable in federal court if it is litigated? Courts do not enforce contracts for illegal purposes.

McVay said Colorado and California have had cases in which judges reached opposite conclusions about enforceability. One case says the contracts are illegal and thus unenforceable under federal law. The other enforced the contract because it was legal under state law.

“If you are writing an insurance policy, depending on the state, you aren’t going to have any guarantee that the contracts will be enforced,” McVay said. “We think, based on what we are hearing from some states, that they will be. A lot is going to depend on when these cases get heard.” One option, he said, is to go to binding arbitration. Arbitrators are much more likely to find that the contracts are enforceable.

Too much cash—a bad problem to have?

State-sanctioned marijuana businesses deal mostly in cash, and it often is difficult for them to make deposits, pay taxes (the IRS does not take cash), and pay their employees and vendors because large banks won’t risk seizure of the deposits by the feds. Some smaller banks have been willing to step in, so the situation is improving in some locations. McVay said he no longer receives $10,000 retainers in cannabis-reeking cash, which was often tough to explain to the bank. However, because cannabis remains a mostly cash industry, insurers need to write policies knowing that their policyholders will typically keep a large amount of cash on hand. Some policies are requiring two safes—one for the pot and one for the cash, and specific-size safes, too.

Indoor growing is another policy-writing consideration. There are moisture, electricity and lights that, in combination, add risk, McVay said. Some states, like Nevada, only allow indoor growing. Some states require cannabis businesses to carry $1 million in general liability coverage. A landlord might demand fire insurance. Businesses are looking for insurers to write policies and pay claims.

The emerging products-liability arena

One of the hottest topics in the marijuana universe is products liability, Bricken said. The big questions surround quality assurance and faulty labeling. States are setting the floor; the courts are going to have to decide where the duties lie, she said. Usually with products liability you’ll see negligence, strict liability and breach of warranty claims. You won’t see much in the way of manufacturing and design-defect claims with cannabis, she said, except for perhaps vapor pens.

But failure-to-warn claims may be significant. There are inherent, non-obvious dangers that need to be included on the label, Bricken said. Eating a whole brownie in some cases could make a certain person so high that they harm themselves or others. It is particularly hard to decide what is an adequate warning at this point. To define a reasonable person for labeling, manufacturers should assume a consumer is a first-time user of average intelligence. The label needs to include side effects, safe handling instructions, allergens and drug interactions (a huge area for errors). You want to make sure these standards are in check if you are going to insure them. She predicted it is only a matter of time before the Federal Trade Commission gets involved with labeling, at a minimum.

You also could have harm from inferior quality. “Strict liability is going to bite a lot of people,” Bricken said. “In many cases, these guys are calling the shots themselves when it comes to quality controls, and this is obviously going to have some shortcomings.” She cited one case of a crop grower whose marijuana was recalled because an otherwise-approved pesticide gave off hydrogen cyanide when it was burned.

When drafting an insurance policy, Bricken advised carriers to be careful whom they are insuring. Be sure they are in a state with a recall body of law that can guide them and keep businesses in check, so you don’t have to reject a claim because a cannabis company wasn’t careful enough with its product. You should also be sure that any quality-analysis labs are following state regulations.

“We are truly in the beginning stages for developing a body of law that inevitably will be the standards for cannabis and products liability,” Bricken said. “Insurers need to make sure the state or the manufacturer maintains these standards. Yet, how are you going to do this when states are regulating this by the seat of their pants? Insurers will have to make sure policyholders are complying with ever-changing laws. It’s certainly a risk to insure this because it is still evolving.”

This article is based on a Webinar presented in February 2016 by HB Litigation Conferences.