Courtesy of Lee Reiners and John W. Matthews
This past election day, voters in California, Maine, Massachusetts, and Nevada voted to fully legalize marijuana, joining Alaska, Colorado, Oregon, and Washington as the only states in the union to permit the recreational use of marijuana. Rejoicing amongst legalization advocates has been tempered by the fact that marijuana remains illegal at the federal level and by uncertainty surrounding the incoming administration, who may not follow the hands-off approach the Obama administration applied to states’ legalization efforts.
What won’t change is the difficulty marijuana related business (MRBs) have had in getting access to financial services. Because marijuana remains illegal at the federal level, banks are reluctant to do business with MRBs for fear of being prosecuted or facing civil money penalties. This has led to many MRBs doing business strictly in cash, which makes them an easy target for criminals and in turn has spawned a sizable private security industry dedicated to protecting the profits, and safety, of those in the marijuana industry. New MRBs in California, Maine, Massachusetts, and Nevada will soon be confronted with this reality, and it’s a reality that may prove unsustainable.
Marijuana Remains Illegal at the Federal Level
Marijuana is classified as a Schedule 1 drug under the Controlled Substances Act (CSA). Schedule 1 is the most severe category in the CSA, and includes other drugs such as mescaline and heroin. Doctors may not prescribe schedule 1 substances.
Because of marijuana’s treatment under the CSA, any financial institution servicing an MRB can be accused of facilitating money laundering under the terms of the 1986 Money Laundering Control Act (MLCA). Even prior to the MLCA, the federal government relied on the help of financial institutions to fight against money laundering through the Bank Secrecy Act (BSA) of 1970. The BSA requires banks to “monitor their customer’s [sic] transactions, file reports of cash transactions exceeding $10,000, and report certain suspicious activities that might indicate money laundering, tax evasion, or other criminal activities, such as financial transactions associated with illegal drug activity.” The BSA applies to all banks in the U.S., be they chartered under state or federal law, and it even applies to non-banks who engage in bank-like activity.
The Treasury Department’s Financial Crimes Enforcement Network (FinCEN) is responsible for enforcing the BSA. They have the authority to initiate civil enforcement actions against banks for violations of the BSA. Additionally,the Department (DoJ) of Justice can bring “criminal actions against banks and responsible individuals for willful violations of the BSA, seeking criminal fines, imprisonment, or both.” Some of the more well-known requirements of the BSA include currency transaction reports (CTRs) and suspicious activity reports (SARs). A bank must file a CTR with FinCEN for any cash transaction of $10,000 or greater, and a SAR must be filed by a bank whenever a transaction of $5,000 or more is suspected to be:
- Derived from illegal activities or is intended to support illegal activities;
- Designed to evade any requirement of the BSA; or
- Conducted for no business or lawful purpose.
FinCEN and DoJ Guidance
All of this has led banks to develop robust, and expensive, BSA and anti-money laundering (AML) compliance programs. It has also led to most financial institutions shunning any type of relationship with MRBs. Recognizing this dilemma, in 2014, FinCEN issued guidance that lays out their expectations for financial institutions conducting business with MRBs.
FinCEN’s guidance sets out multiple tiers of SARs. For a bank that wishes to initiate a relationship with an MRB, they must file a Marijuana Limited SAR, which simply provides the government with the MRB’s identifying information. After this, the bank must file continuing activity reports which contain the amount of deposits, transfers, and withdrawals made by the MRB since the previous filing (these reports must be filed within 120 days of filing the Limited Marijuana SAR and every 120 days thereafter.) If a bank believes that an MRB violates Department of Justice (DoJ) guidance (Cole Memo) or state law, they must file a Marijuana Priority SAR, which provides detailed information on the nature of the infraction. Finally, if a bank terminates a relationship with an MRB, they must file a Marijuana Termination SAR that specifies the reasons why the account is being terminated.
FinCEN’s guidance has had little impact on banks’ willingness to conduct business with MRBs for several reasons. First, the reporting and monitoring requirements it imposes on banks are rigorous and costly; many banks find the benefit of servicing MRBs do not exceed the compliance costs. Second, failure to comply with the guidance is a violation of the BSA, potentially opening up the bank to civil money penalties or criminal prosecution. Third, the guidance can be overturned on day 1 of a new administration, which may very well happen come January 20th.
Hesitancy of Federal Banking Regulators
Even if a bank felt comfortable with their ability to meet the additional BSA and AML compliance procedures that come with doing business with MRBs, they may face an additional roadblock in the form of federal banking regulators who are unwilling to sign-off on the facilitation of illegal activity.
Under the U.S.’s dual banking system, banks can be chartered at the state or national level. For banks wishing to serve MRBs, it is not simply a matter of receiving a charter in a state where marijuana is legal. Even state chartered banks must get deposit insurance, either by law or by business necessity. The FDIC serves as federal deposit insurer and has supervisory authority over insured banks. This gives the FDIC the ability to impose civil penalties, issue cease and desist letters, or revoke a bank’s deposit insurance if the bank is engaged in unsafe or unsound practices, or is in violation of the law or applicable regulations.
The Federal Reserve also has the ability to limit MRBs access to financial services through their role as the primary supervisor of bank holding companies and state member banks, as well as through their provision of payment services such as the Automated Clearing House (ACH). It is through ACH that employees’ paychecks are direct deposited and businesses pay their vendors. To utilize the ACH network, banks must have a master account at a designated federal reserve bank. The master account is where all of a bank’s credits and debits are booked and where opening and closing balances are determined. Without a master account, a bank is locked out of the payments system and is of little functional value to its customers.
In one well-publicized case, Fourth Corner Credit Union in Colorado sued the Federal Reserve Bank of Kansas City for denying it a master account. Fourth Corner was a state charted credit union that was established for the sole purpose of serving the marijuana industry. This past January, a district court dismissed Fourth Corner’s lawsuit on the basis that “courts cannot use equitable powers to issue an order that would facilitate criminal activity.”
The Role of Credit Unions
For MRBs fortunate enough to have access to banking services, it is likely through a credit union. Credit union deposits are insured by the National Credit Union Administration (NCUA) and the NCUA also supervises federally chartered credit unions. Compared to their federal banking counterparts, the NCUA has been somewhat accommodative of credit unions seeking to service MRBs, going so far as to issue a brief statement that indicated NCUA examiners would be relying on FinCEN’s guidance when assessing a credit union’s compliance with BSA and AML regulations.
State chartered credit unions are also more willing to service MRBs due to explicit guidance they have received from state banking agencies, and because they are not supervised at the federal level. However, credit unions still must comply with BSA requirements, which, as noted earlier, are cumbersome and expensive. Credit unions are also limited in how big they can get due to restrictions on who can become a member. The bottom line is that the banking needs of MRBs cannot be met by credit unions alone.
California Could Force a Change
California is home to 12% of the nation’s population and on its own would be the world’s sixth largest economy. Market research firms Arcview Group and New Frontier estimate that by 2020, revenue from the state’s medical and recreational marijuana industry could hit $6.5bn.
If nothing changes in regards to how the federal government treats marijuana, California will be awash in cash. This much cash would be a threat to public safety and would hinder the state’s ability to collect tax receipts. State officials are already grappling with how to deal with this problem. Last week, California’s Treasurer issued a letter to President-elect Donald Trump seeking guidance on how the state’s marijuana industry can participate in the banking system. The sheer scale of the problem in California may force the federal government’s hand, leading to new regulations or legislation that would provide MRBs greater access to financial services.
Impact of a New Administration
It is possible that the Trump administration will increase enforcement of the nation’s drug laws. President-elect Trump’s views on marijuana legalization are unclear, although he appears to be in favor of medicinal marijuana. Potentially more important are the views of incoming Attorney General, Jeff Sessions, and those are perfectly clear. At a Senate hearing this past April, Sessions stated: “We need grown-ups in charge in Washington to say marijuana is not the kind of thing that ought to be legalized.”
If Sessions were to enforce this sentiment, it would likely lead many financial institutions that currently serve MRBs to reconsider their policy and pull back. In the short term, this would lead to more MRBs conducting business in only cash and restrict their access to credit, which in turn would limit the industry’s growth and the associated jobs and tax revenue that come with it.
In the long term, public opinion will continue to look more favorably upon marijuana use and additional states will pass referendums permitting recreational usage. At a certain point, Congress will realize it doesn’t make sense to have an entire industry be without access to financial services. But it’s hard to predict when that point will come.
 On August 29, 2013, the DoJ issued a memo to all U.S. attorneys which described a new set of priorities for federal prosecutors operating in states which had legalized the medical or other adult use of marijuana. The “Cole memo” represented a significant shift of government priorities away from strict enforcement of federal cannabis prohibition and toward a more hands-off approach in the case of “jurisdictions that have enacted laws legalizing marijuana in some form and that have also implemented strong and effective regulatory and enforcement systems to control the cultivation, distribution, sale and possession of marijuana.”
 A bank without deposit insurance is unlikely to succeed since consumers would be unwilling to place their deposits at that bank for fear of not getting their money back if the bank gets into trouble.
 In practice, the FDIC cedes primary federal supervisory authority over national banks to the OCC and authority over state member banks to the Federal Reserve Board. Today, the FDIC serves as the primary federal prudential supervisor for state non-member banks and state savings associations. In that role, the FDIC is the primary safety and soundness examiner for state-chartered non-member banks
 All federal credit union deposits are insured by the NCUA and the overwhelming majority of state-chartered credit union deposits are insured by the NCUA as well.
 State-chartered credit unions are supervised at the state level.