New Opinion Confirms Growing Trend Away from “Zero Tolerance” Cannabis Bankruptcy Relief Policy

California has no shortage of issues with its legalized cannabis marketplace. For a couple of years now, an open secret in California (and a cautionary tale for other states) is the concept of “burner licenses“. These are licenses issued to a company by the Department of Cannabis Control (“DCC”) that are used to conduct illegal, interstate trafficking of cannabis.

This burner license issue has gotten so bad that The Green Market Report recently detailed how a California cannabis entrepreneur found his own, branded cannabis products on the shelves of a New York dispensary. The dispensary let him know that it came from a “burner distro” in California. The Green Market Report also quoted New York cannabis regulator, Axel Bernabe, saying “[b]urner distros are the bane of our existence.”

This kind of situation begs the question: should states be charged with greater enforcement against this particular kind of illegal activity, or would interstate cannabis agreements (assuming they ever come to fruition) actually help? The answer is likely, yes, states need to ramp up enforcement for unlawful interstate commerce (otherwise, what is the point of even getting a state license). And, yes, interstate cannabis agreements could help mitigate these issues (but we won’t see them anytime soon for a number of reasons I detail here).

Enforcement (or lack thereof)

I hit on California a lot for enforcement issues because that’s the state where my cannabis clients suffer the most. And when I talk about enforcement, I’m not talking about throwing people in jail for violating the Medicinal and Adult Use Cannabis Regulation and Safety Act– that isn’t even really possible anymore under state law. What I am saying (and have said before) is that the state has done a terrible job of going after “bad actor” licensees for basic and fundamental regulatory violations.

By this time, everyone has heard of these burner licenses in California, and it’s an incredible disappointment that no enforcement campaign has been formulated by the state around that issue. Plus, you have all kinds of hidden ownership and financial interests, and the state just doesn’t seem interested in pursuing civil and/or administrative penalties with any consistency there.

What’s the incentive to get licensed and remain in compliance if there’s no stick when the carrot doesn’t work? Having a license should actually mean something for consistently law-abiding, tax-paying licensees when it comes to the state’s enforcement efforts. Limited enforcement against obviously illegal, unlicensed operators on random occasion isn’t enough. And to any state that allows its licensees to routinely accept illegal products without consequence– I’m also looking at you. It’s not a good way to commence your newly legal markets, because you’ll immediately lose the trust and faith of law-abiding licensees.

Local control isn’t really controlling any illegal activity

While I’m tough on the DCC, California cities and counties are also to blame. California is a heavy “local control” state when it comes to cannabis. Our cities and counties tend to go one of two ways on cannabis companies and local regulation: free-for-all, or highest barriers to entry you can imagine. California cannabis companies have to secure local approval before they can approach the DCC for a state license. Localities tend to build out their government codes with all of the standard anti-diversion and government oversight provisions you’d expect so that, ideally, a burner license doesn’t end up within their borders.

You can create the highest barriers to entry in the world, but if you don’t actually monitor and enforce, they’re totally meaningless. These strictures simply alienate a good portion of the cannabis economy as a result. And the “free-for-all” jurisdictions that just allow anyone to operate a cannabis business aren’t helpful either, because the barriers to entry are way too low and there’s no enforcement (and oftentimes corruption). Given the lack of widespread local enforcement, it’s also no wonder that burner licenses persist in the Golden State. So, states that have recently legalized or are contemplating legalization should take heed: local control doesn’t mean anything in curbing illegality without teeth or enforcement oversight.

How to find a burner license

In my opinion, here are the likely signs of a burner license:

  1. Locally approved, state licensed company that has no entries into METRC, or just a few sporadic entries here per financial quarter (meaning, it’s showing little to no official sales activities);
  2. Locally approved, state licensed company with no history of paying any kind of state or local taxes (or consistently underpaying those taxes to ward off suspicion);
  3. Management companies or third parties run the entire operation but aren’t disclosed to local or state regulators;
  4. Multi-layered, covert ownership that isn’t entirely disclosed to local or state regulators;
  5. Non-existent or inconsistent camera footage of the locally approved, state licensed facility, with no recording history or any recordkeeping saved on site; and
  6. No banking relationship, all cash basis of operations. (Don’t laugh– at this point, 755 financial institutions are providing banking services to licensed cannabis companies, so if you’re licensed and legit, you likely have a bank account if you want it.)

Of course, the above isn’t exhaustive or conclusive given the depressing economic state of the California market, but they are indicators of suspicious operations. I understand that it takes manpower and resources to mount investigations on the local and state level against these burner licensees; but the industry, itself, should not be afraid to self-police for survival at this point.

Desperate times call for desperate measures?

There’s a lot of hearsay in the cannabis industry. However, the feedback in California is that even legitimate cannabis businesses occasionally turn to the illegal market to stay afloat in the face of low prices and high taxes in the regulated market. I cannot know to what extent the scuttlebutt is true, but I do know that many of these company owners have invested their life savings into this democratic experiment, only to see it nearly crater into increasingly distressed assets.

Interstate cannabis agreements

Interstate cannabis agreements might actually help with all of this illegal diversion. If the states (and better yet, the feds) opened up lawful channels of interstate partner trade, it would infuse struggling markets like California, and it would dampen the ability of illegal operators to continue at this volume.

The problem with the interstate cannabis agreements is the federal government. Obviously, with cannabis as a schedule I controlled substance, interstate movement of cannabis is a big no no (as reflected in the 2013 Cole Memo). Even if the states with legalization could pull off interstate cannabis agreements, we have to wonder what the Department of Justice would do to individual cannabis businesses when it comes to enforcement.

But I think we’re a long way off from seeing any kind of state-sanctioned interstate cannabis activity anyway.

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