Hazy Law: Bankruptcy and Cannabis

The cultivation, production, and sale of cannabis products is a rapidly growing industry in the United States. The word “cannabis” is a term for all products derived from the plant cannabis sativa. Marijuana is a product of this plant containing substantial amounts of tetrahydrocannabinol (“THC”) and is classified as a schedule 1 substance under the federal Controlled Substances Act (“CSA”). However, in the past 10 years 38 states and the District of Columbia have legalized marijuana for either medical or recreational use. This clash between state and federal law has led to an interesting and developing topic in bankruptcy related to whether a debtor that is legally operating under state cannabis laws, while simultaneously violating the federal Controlled Substances Act, is entitled to exercise its federal right to liquidate or reorganize under the United States Bankruptcy Code.

As the demand for cannabis products continues to grow – especially in states where recreational use is permitted for adults over the age of 21 – so has the number of new businesses created with hopes of sharing in the success of what has been dubbed “the green rush.” But, as is with any industry, there are winners and losers and when it comes to filing for bankruptcy, cannabis proprietors find themselves in a sticky situation.

The majority opinion is that: (1) cannabis related assets cannot be administered by a trustee in a Chapter 7 liquidation; and (2) revenue derived from an ongoing criminal enterprise, including cultivating, producing, or selling cannabis products, cannot be used to reorganize a corporate entity in a Chapter 11.  See In re Basrah Custom Design, Inc., 600 B.R. 368 (Bankr. E.D. Mich. 2019).  Even minimal tangential contact with the cannabis industry may be sufficient to deny a debtor a discharge.  For instance, in Colorado a debtor’s bankruptcy was dismissed for “unclean hands” when the debtor’s sole connection to the cannabis industry was that 25% of its income was derived from renting commercial space to a tenant in the cannabis industry.  In re Rent-Rite Super Kegs West Ltd., 484 B.R. 799 (Bankr. D. Colo. 2012). 

At CBH Attorneys & Counselors, we work with distressed companies in the cannabis industry to develop creative solutions, including distinguishing their case from prior bankruptcy decisions, restructuring companies outside of bankruptcy, selling companies, finding investors, or providing an orderly winddown.  Contact us today to review your options. 

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If you have questions about your legal options, we’re ready to speak with you. If you or a loved one are in need of legal assistance, contact us today to schedule a consultation with a member of our team.

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