It’s ALL in the NAME
At the time of this writing, there are 11 states that have legalized recreational marijuana use, and 22 states have legalized the sale and distribution of marijuana for medical use. However, the Federal Government considers the sale, cultivation, and distribution of marijuana a class A felony.
The very nature of Risk Management is to reduce the chance of loss while maximizing the chance of gain. What is the worst “probable” loss should a financial institution get involved with a cannabis business client? Let me put this another way: What is the worst “probable” loss should a financial institution get involved with an illegal activity? Yes, if the Federal Government decides to enforce the law in this issue, penalties and fines against the bank and its officers and directors are certainly possible, with jail time possible for the worst offenders.
Yes, but the state says this activity is legal, you say. However, most, if not all, financial institutions are governed by a federal agency e.g. FDIC or OCC, which would appear to give the Fed the upper hand. The McCarran-Ferguson Act would seem to confirm this position.
Where does the insurance industry stand on this issue? Insurance companies seem to take one of two stances. Either they refuse to insure banks that do business with the cannabis industry, or they figure if they don’t know about it, they can turn a blind eye to the activity. The latter only applies until a loss occurs involving the cannabis client, in which case the claim will probably be denied.
There are a couple of issues that insurance companies have with this activity. First, you cannot buy an insurance policy to cover illegal activity. Indeed, you cannot have an enforceable contract for an illegal activity for that matter. Second, the Financial Institution Bond specifically excludes coverage to an employee of the bank the moment management is aware of said employee or officer having committed “a dishonest or fraudulent act.” It is my opinion that the lending officer that lends money to a cannabis client would be committing a “fraudulent” act, at least as far as the Fed is concerned. The teller that opens a checking account for such a business would be in the same situation. Bond coverage for these individuals would cease immediately.
Lawsuits against officers and directors by stockholders alleging they were aiding and abetting illegal activity would probably be defended by the D&O policy, but if found guilty, would have to reimburse the insurance company for all monies paid out in their defense. The D&O policy should defend the bank, its officers, and directors for alleged discrimination suits by cannabis dealers for NOT lending them money or allowing them to be a depositor.
Many financial institution insurers are asking banks about their involvement in the industry in the Bond and D&O application process, and if the bank is doing business with the cannabis industry, they are refusing to write or renew insurance coverage. The issue is too fraught with uncertainty for insurance company underwriters to be comfortable.
So long as the marijuana issue remains in legal limbo, banks should steer clear of lending money to, accepting money from, or otherwise dealing with the cannabis industry. Such dealings would not only jeopardize the bank’s reputation, but may result in the bank’s closure, and/or loss or imprisonment of key officers and directors. In short, the risk of loss compared to the possible gain is too great to accept at this time.