The Obama Administration took steps last week to potentially
pave the way for marijuana growers and related businesses to obtain
core financial services. As more states have moved to legalize
marijuana sales under certain circumstances, many financial
institutions have been reluctant to provide attendant banking
services, out of fear of prosecution, regulatory action at the
federal or state level, or significant reputational risks arising
from congressional or other scrutiny, particularly of first-mover
financial institutions. As a result, the majority of legal
marijuana-related transactions still take place in cash, outside
the formal financial system. Observers have noted that the vast
amount of cash in this sector has created increasing security
risks, driven financial conduct underground, and made it more
difficult for law enforcement to "follow the
money."
In response to these concerns, the Justice Department and the
Treasury Department's Financial Crimes Enforcement Network
(FinCEN), the administrator of anti-money laundering (AML)
provisions of the Bank Secrecy Act (BSA), issued concurrent
guidance on February 14, 2014 to prosecutors and financial
institutions, respectively. (The February 2014 DOJ Memorandum is
available here, and the FinCEN guidance is
available here.) The documents are intended to
(1) clarify that providing financial services to marijuana
businesses that do not run afoul of the Justice Department's
priorities and whose activities are legal under state laws is not a
priority, given DOJ's limited prosecutorial resources; and
(2) create a framework under which financial institutions can
provide services to legalized marijuana businesses within current
BSA requirements. Although the guidance conveys the
Administration's policy and priorities, it does not carry the
force of law, and thus does not fully resolve risks of prosecution,
regulatory exposure and reputational harm—a point emphasized
by a leading Member of Congress as well as several trade
associations.
Set forth below are key provisions of the guidance, as well as some
observations regarding the broader contexts and opposing views at
work in this debate. We continue to believe that this market
presents substantial risks and that financial institutions should
continue to press for more certain exposure-reducing measures.
Further, even those financial institutions that do not intend to
provide services to marijuana businesses may want to review current
and new customer relationships for inadvertent exposure to the
sector.
The Justice Department's Memoranda
Deputy Attorney General James Cole issued the February 14, 2014
Memorandum to US Attorneys as a follow-up to his August 29, 2013 Memorandum setting forth the
Department's eight enforcement priorities with respect to
marijuana. These include, but are not limited to, preventing the
distribution of marijuana to minors, preventing revenue from
marijuana sales from going to criminal organizations, and
preventing state-licensed activity from being used as a cover for
illegal activity.
The February 2014 Memorandum focuses on financial crimes associated
with marijuana sales, and sets forth guidance on prosecutors'
use of their discretion and resources. It states that financial
institutions that intentionally provide services that
implicate the eight priorities listed in the August 2013
Memorandum might be appropriate for prosecution. Notably, the
February 2014 Memorandum further warns that financial institutions
that are wilfully blind to such activity may also face prosecution.
Failure to conduct appropriate due diligence of customers'
activities is an example of such wilful blindness. In contrast, the
February 2014 Memorandum states, "if a financial institution
or individual offers services to a marijuana-related business whose
activities do not implicate any of the eight priority factors,
prosecution for these offenses may not be
appropriate." (Emphasis added.)
FinCEN Guidance
According to FinCEN, its February 14, 2014 guidance "should
enhance the availability of financial services for, and the
transparency of, marijuana-related businesses." The document
lays out several measures that financial institutions should take
with respect to such businesses, in order to meet their BSA
obligations.
First, it sets forth seven due diligence steps that financial
institutions should take with regard to marijuana businesses:
- Verifying with the appropriate state authorities whether the
business is duly licensed and registered;
- Reviewing the license application (and related documentation)
submitted by the business for obtaining a state license to operate
its marijuana-related business;
- Requesting from state licensing and enforcement authorities
available information about the business and related parties;
- Developing an understanding of the normal and expected activity
for the business, including the types of products to be sold and
the type of customers to be served (e.g., medical versus
recreational customers);
- Ongoing monitoring of publicly available sources for adverse
information about the business and related parties;
- Ongoing monitoring for suspicious activity, including for any
of the red flags described in this guidance; and
- Refreshing information obtained as part of customer due diligence on a periodic basis and commensurate with the risk.
Implicit in these due diligence measures is a requirement that
financial institutions have a thorough and current understanding of
marijuana licensing and other regulations across the states where
some form of marijuana sales has been legalized. (As of February
14, 2014, some 20 states and the District of Columbia had
authorized some type of marijuana sales.) Thus, in order to
implement these due diligence measures, financial institution
compliance and legal teams need to remain abreast of a myriad of
developments at the state level.
With this guidance, FinCEN also has created entirely new classes of
Suspicious Activity Reports (SARs) related exclusively to the
marijuana industry:
- "Marijuana Limited" SARs:
Financial institutions are required to file this category of SARs
when they reasonably believe the marijuana-related transactions
do not run afoul of DOJ's priorities and are
permitted under state laws. This new category of SARs was
created in recognition of the fact that marijuana sales continue to
be illegal at the federal level. While not expressly stated in the
guidance, this SAR category may provide financial institutions some
"cover" with their regulators (discussed further below).
Once the initial filing is made, the financial institution will
need to take care to meet its continuing SAR filing obligations for
the life of the relationship. (See FinCEN Frequently Asked Question
#16 on continuing SAR obligations, available here.)
- "Marijuana Priority" SARs:
Conversely, financial institutions are required to file this type
of SAR when they reasonably believe that marijuana-related
transactions do implicate DOJ's priorities and/or
violate state law. This new category is more akin to the
current requirement to detect and report suspicious activity.
- "Marijuana Termination" SARs: Financial institutions should use this type of SAR when their risk-based procedures mandate closure of a marijuana-related account. We note that the underlying activity could be legal or illegal, as accounts may be terminated for a variety of reasons.
Financial institutions are mandated by the guidance to include
the classification in the narrative section of the SAR
filing, to enable law enforcement and regulators to sort
and prioritize their reviews of SARs.
FinCEN's guidance also contains more than 20 "red
flags" that may indicate that a marijuana-related customer may
be engaging in business that runs afoul of DOJ's priorities,
and/or state law. Several of these red flags involve deviations
from a customer's or a peer's expected activity. Financial
institutions may struggle to establish such baselines as they
embark on these customer relationships. In addition, FinCEN
strongly encourages the use of voluntary information-sharing among
financial institutions under Section 314(b) of the PATRIOT Act, in
order to promote compliance with the guidance and to strengthen the
financial system more broadly.
The Hill Speaks Out
Congressional leaders have spoken out on both sides of the issue. A
bipartisan group of 18 Members of Congress sent a letter to President Obama on February 12,
2014 to request that he re-classify marijuana as a lesser narcotic,
which would lessen the impact of violations of relevant laws at the
federal level, and would have tax benefits for legalized marijuana
businesses.
On the other hand, Senator Chuck Grassley (R-IA), ranking minority
member of the Judiciary Committee, registered his disagreement with
the Administration's approach to these issues. "The
Administration can't change the law with a memo," Grassley
said on his website on the same day that DOJ and
FinCEN issued the guidance. Senator Grassley has a history of
launching congressional investigations that garner significant
media attention and support from Republicans in the House of
Representatives, where Republicans are in the majority, and we
expect that he may follow that path here, focusing on federal
agencies and first-movers among financial institutions. We also
anticipate that some State Attorneys General will side with Senator
Grassley, and could launch similar inquiries.
Whither the Other Regulators?
Noticeably absent from the FinCEN advisory were the federal
functional regulators, including the Federal Reserve, OCC, FDIC and
SEC and others. These regulators examine for and have independent
enforcement authority over AML compliance at financial
institutions—authorities that they have exercised at
unprecedented levels in recent years. As a result, financial
institutions may benefit from a dialogue with their supervisors
when considering providing services to marijuana-related
businesses.
Industry Concerns Remain
Because the guidance is careful to state that it does not
constitute a defense to criminal or regulatory action, some in the
private sector have taken the DOJ and Treasury guidance as cold
comfort. The financial services sector remains concerned about
prosecution, regulatory action and reputational harm from dealing
with marijuana-related businesses whose activities are still
illegal at the federal level. The Colorado Bankers Association
voiced its dissatisfaction with the guidance, and continues to
press for legislative changes at the federal level that would
provide more solid relief.
The guidance also could be reversed with more ease than a
regulatory or statutory change, potentially leaving institutions
with exposure for actions taken in reliance on current guidance. In
the event of such a reversal, transactions that violate drug
trafficking laws or SAR requirements may have taken place within
the relevant statutes of limitation.
Finally, even those financial institutions that do not intend to
provide services to marijuana-related businesses may want to assess
whether they have existing, undisclosed relationships with the
marijuana industry, and whether their due diligence and transaction
monitoring controls are adequate to identify new ones. Given the
new construct for filing SARs, financial institutions should
consider whether their policies and procedures for reporting of
suspicious activity and termination of accounts follow the new
standards.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.