Executive Summary

Financial institutions have a dilemma with providing services to marijuana businesses. In the

1850s, marijuana was available in American pharmacies for medical use in treating pain, nausea,

loss of appetite, among other conditions. Attitudes then changed, and marijuana became

criminalized. The Controlled Substance Act (CSA) enforced by the U.S. Drug Enforcement

Administration (DEA) classified marijuana as a Schedule I drug, which meant it had no currently

accepted medical use, and had a high potential for abuse. As a result, this effectively stifled

research to determine and fully understand marijuana’s effects or if any medicinal value could be

obtained. Even though marijuana is illegal by federal law, its use still doubled in the 1990s, and

was widely available. Attitudes again changed, and states began to legally allow the use of

marijuana for adults over the age of 21 for medical reasons, and later for recreational use, provided

if the states had a regulatory scheme that had strong and effective regulatory and enforcement

systems.

The Department of Justice (DOJ) provided guidance to criminal investigators and federal

prosecutors concerning marijuana enforcement, and identified eight enforcement priorities in

enforcing the CSA against marijuana-related activity. The Financial Crimes Enforcement Network

(FinCEN) also provided guidance to financial institutions concerning Bank Secrecy Act (BSA)

expectations when deciding whether or not to offer financial services to marijuana businesses.

Regardless of the guidance given by DOJ and FinCEN, members of the financial industry feel the

odds are against them, because they could still be held accountable, criminally and civilly, if their

marijuana business clients were found to have violated the law. In addition, financial institutions

feel they are held to a higher degree of scrutiny by federal regulators if they accept legitimate

marijuana businesses as clients; thereby running the risk of their institution’s rating being

downgraded. For these reasons, many financial institutions have refused financial services to

marijuana businesses.

Consequently, marijuana businesses are forced to operate on a “cash-only” basis. This creates a

safety issue in that marijuana businesses become targets for robbery since the money generated

from sales of marijuana cannot be deposited into a business account at a bank or credit union.

Without the use of financial institutions, there is no real digital “paper trail” for auditing purposes,

which also makes the detection of possible fraud and money laundering violations that much

harder.

There are proactive steps financial institutions can implement to help address emerging risks

associated with marijuana businesses, but those alone will not solve the problem facing financial

institutions. There is a real need for legislative action that would create protections for financial

institutions that provide financial services to marijuana-related businesses. Perhaps the issue of

reclassifying marijuana from a Schedule I drug needs to also be examined for its possibilities.

Maybe then there can be relief for the financial industry with this problem of providing services

to marijuana businesses.

1

Introduction

The conflict between federal and state laws in the U.S. regarding the legality and use of marijuana

has created a major dilemma for financial institutions. It has caused a serious debate about whether

or not to provide services for marijuana businesses. Most are outright declining to do so. But how

did this problem even start? Marijuana was not always categorized as an illegal substance.

Objectives of this paper: In order to help the reader to better understand the cause of this problem

facing financial institutions, a brief historical overview of marijuana regulation in the U.S. will be

presented to help put things in perspective. Secondly, the federal government’s response to state

initiatives seeking to decriminalize or legalize the use of marijuana will be addressed. Thirdly,

what the federal government’s actions and resulting implications mean for the financial industry

and marijuana businesses will be discussed. Lastly, some possible options or solutions that can

help resolve this issue facing financial institutions will be examined.

Historical Overview

Marijuana, also known as “Cannabis Sativa,” is the most commonly used illicit drug in the world.1

Its primary active psychoactive ingredient is one of many cannabinoids found in marijuana,

commonly referred to as “THC.” Potency is measured by the concentration of cannabinoids,

specifically THC, and because of improvements in technology and growing methods; marijuana

has become increasingly more potent over the past few decades.2 Historically, marijuana has been

used to achieve a euphoric state, as well as for medicinal purposes; i.e., treating pain, nausea, loss

of appetite, among other conditions. The oldest known written record of cannabis use comes from

a Chinese medical compendium dating back to around 2727 BCE.3 Medical use of cannabis began

in the 1850s, when it became available in American pharmacies. As its medicinal purposes grew,

efforts to regulate its sale, and pharmaceutical laws were created on a state-by-state basis.4 For

most of early U.S. history, marijuana was legal to grow and use without the thought of penalty.

Attitudes started to change. A number of states moved to criminalize marijuana for the first time.

Why? What all of a sudden changed about marijuana? From the 1910s through the 1930s,

marijuana as an intoxicant became negatively associated with Mexican immigrants crossing the

Mexican-U.S. border, and by Caribbean seamen and West Indian immigrants entering the U.S. by

1 Jonathan P. Caulkins et al., Marijuana Legalization: What Everyone Needs to Know, (New York: Oxford

University Press, 2012), 3.

2 Caulkins et al., Marijuana Legalization, 9.

3 DEA Museum, Cannabis, Coca, & Poppy: Nature’s Addictive Plants found at:

http://www.deamuseaum.org/ccp/cannabis/history.html.

4 Michael Berkey, “Note: Mary Jane’s New Dance: The Medical Marijuana Legal Tango”, Cardozo Public

Law, Policy & Ethics Journal, v.9, no.2 (Spring 2011): 417.

2

way of New Orleans and other parts of the Gulf of Mexico.5 Hostility towards Mexican

immigrants developed into hostility towards what was thought of as a Mexican drug.6

At the time, alcohol was prohibited. And so, smoking marijuana was seen as a cheap alternative.

State and local governments began enacting anti-marijuana laws at first, to regulate pharmaceutical

products; but then later, aimed at restricting and prohibiting importation, distribution, sale and

possession of marijuana. Congress aimed to make marijuana illegal when it passed the Marijuana

Tax Act of 1937, which later led to taking it off the list of permissible medicines approved by the

federal government by removing it from the Federal Pharmacopoeia.7 It would not be until 1970

when the U.S. Supreme Court repealed the Marijuana Tax Act of 1937 as being unconstitutional

because it violated the Fifth Amendment privilege against self-incrimination. The Court ruled it

compelled a person to expose himself to the risk of self-incrimination by requiring that person to

identify himself by obtaining an order form as an unregistered transferee who had paid the

occupational tax.8

Congress would respond in turn by passing the Comprehensive Drug Abuse Prevention and

Control Act in 1970. This is also known as the Controlled Substance Act (CSA). It prohibited

marijuana in all 50 states, and is the prevailing federal drug law to this day. This is a contributing

cause to the dilemma facing many financial institutions, which this paper is going to address.

The CSA, enforced by the U.S. Drug Enforcement Administration (DEA), created a scheduling

system and classified marijuana as Schedule 1. The classification system contains five schedules

of drugs9 (See Appendix A for all five schedules). Where a substance is placed within the five

schedules is based upon the substance’s medical use, potential for abuse, and safety or dependence

liability. Below is the criteria used for Schedule 1, and examples of substances for this schedule:

Schedule I

The drug or other substance has a high potential for abuse.

The drug or other substance has no currently accepted

medical use in treatment in the U.S.

There is a lack of accepted safety for use of the drug or other

5 Jerrold S. Meyer and Linda F. Quenzer, Psychopharmacology: Drugs, the Brain, and Behavior

(Connecticut: Sinauer Associates, 2013), 328.

6 Caulkins et al. Marijuana Legalization, 19.

7 Mark Eddy, “Medical Marijuana: Review and Analysis of Federal and State Policies”, Congressional

Research Service, RL33211 (March 2009): 3 http:www.fas.org/sgp/crs/misc/RL33211.pdf.

8 Wikipedia, s.v. “Leary v. United States, 395 U.S. 6” (1969),

https://en.wikipedia.org/wiki/Leary_v._United_States

9 U.S. Department of Justice Drug Enforcement Administration, “Drugs of Abuse”, A DEA Resource

Guide” (2011), 9-10, http://www.dea.gov/pr/multimedia-library/publications/drug_of_abuse.pdf.

3

substance under medical supervision.

Examples of Schedule I substances include heroin, gamma

hydroxybutyric acid (GHB), lysergic acid diethylamide (LSD),

marijuana, and methaqualone.

But here lies the problem as viewed by many pro-medical marijuana advocates, marijuana

dispensary owners, and those in the field of medical research (i.e., American Medical Association

[AMA]), with classifying marijuana as a Schedule 1 drug. It impedes the study and scientific

research to be conducted to really determine and fully understand marijuana’s effects, and any

dangerous or addictive properties it may have; or conversely, any medicinal values that may be

obtained. Classifying marijuana as Schedule 1 makes “double-blind”10 testing normally conducted

on medical products next to impossible. For this reason, the AMA has recommended that

marijuana’s classification be reviewed to make clinical trials of the drug more feasible.”11 Double-

blind testing is when neither the researchers conducting the experiment nor the subjects know

which of the groups being studied is the control group, and which is the test group.

To this day, the categorizing of marijuana as a Schedule 1 remains controversial. As stated before,

DEA enforces the CSA and maintains that marijuana should remain a Schedule 1 narcotic. By

keeping marijuana classified as a Schedule 1 and prohibited under federal law, those in violation

are subject to criminal and civil penalties. Financial institutions that are approached by business

owners of marijuana dispensaries seeking financial services (i.e., opening bank and credit card

accounts, taking out loans, etc.) are included as being subject to criminal and civil penalties. As

part of the CSA, civil provisions exist that allows for forfeiture of property and seizure of assets.

For example, a marijuana dispensary owner seeking a commercial mortgage loan from a financial

institution to house his dispensary could have the property and business assets seized for violating

federal law.

Changes in Marijuana Policy at State Level

Even though marijuana is illegal by federal law, its usage nearly doubled in the 1990s.12 The

decriminalization movement was always vocal in its efforts to decriminalize the possession of

marijuana and reduce its penalties. Then in 1996, the pendulum swung again regarding changing

marijuana policy at the state level. Attitudes were changing causing many to view the enforcement

10 Erwin Chemerinsky et al., “Cooperative Federalism and Marijuana Regulation”, 62 UCLA Law

Review74 (2015): 83. http://www.uclalawreview.org/cooperative-federalism-and-marijuana-regulation-2/. 11American Medical Association, “Use of Cannabis for Medicinal Purposes,” Report 3 of the Council on

Science and Public Health (I-09), (2009): 2. http://www.ama-assn.org/resources/doc/csaph/csaph-report3-i09.pdf.

12 Caulkins et al, Marijuana Legalization, 22.

4

of marijuana laws as racially biased in that blacks were three times more likely to be arrested for

marijuana possession than whites.13

Another reason also had to do with the enormous cost involved in the use of resources in enforcing

the marijuana laws on a drug that still remains readily available. But the primary motivation

involved the growing support for the use of medical marijuana by seriously ill patients.14 In 1996,

the State of California became the first state to legally allow the use of marijuana for medical

reasons when it passed Proposition 215. It required patients to obtain either an “oral or written

recommendation” from their physician.15 Emphasis is on the requirement of a doctor’s

“recommendation,” not prescription. A doctor could lose his/her DEA license for prescribing

marijuana because it is still against federal law. As previously mentioned, as a federally Scheduled

1 drug, marijuana is classified as having no medicinal value, high potential for abuse, and is illegal

to possess, manufacture, or distribute. So, by requiring a doctor’s “recommendation” for a patient

to use medical marijuana, Proposition 215 followed language that was previously used when

precedent was set in 1992 by the U.S. Supreme Court when it ruled that doctors could not be

banned when discussing or recommending abortion to their patients. This had to do with a doctor’s

right to freedom of speech in discussing health care options with their patients.16

California’s Proposition 215 became a role model for other states wanting to also legalize the use

of medical marijuana. In 1998, Alaska, Oregon and Washington State followed suit in legalizing

the use of medical marijuana. In 2000, Hawaii, Colorado and Nevada followed as well. Then in

2012, Colorado and Washington State took it a step further beyond legalizing medical marijuana

use. Colorado’s Amendment 64 and Washington State’s Initiative 502 passed legislation that

legalized recreational use of marijuana for adults over the age of 21. They became the first

American jurisdictions to replace marijuana prohibitions with a system to tax and regulate

marijuana production and sale.17 Colorado’s Amendment 64 further established a regulatory

framework by requiring Colorado’s Department of Revenue to establish licensing and security

requirements for marijuana businesses, and labeling requirements for marijuana products, health

13 Ezekiel Edwards et al., “The War on Marijuana in Black and White: Billions of Dollars Wasted on

Racially Biased Arrests,” ACLU (2013): 8. https://www.aclu.org/criminal-law-reform/war-marijuana-black-and-

white-report.

14 PEW Research Center for the People and the Press, “America’s New Drug Policy Landscape, (2014): 3.

http://www.people-press.org/2014/04/02/americas-new-drug-policy-landscape.

15 California Secretary of State, “Votes for and Against November 5, 1996, Proposition 215: Text of

Proposed Law, (1996). http://vote96.sos.ca.gov/Vote96/html.215text.htm.

16 Planned Parenthood of S.E. PA v. Casey, 505 U.S. 833 (1992): 884.

17 Keith Coffman and Nicole Neroulias, “Colorado, Washington First States to Legalize Recreational Pot,

Reuters, November 7, 2012. http://reuters.com/article/2012/11/07/us-usa-marijuana-legalization-

idUSBRE8A602D20121107.

5

and safety standards for marijuana cultivation, product manufacturing, testing facilities and retail

stores. It also required an excise tax on marijuana.18

Washington State’s Initiative 502 removed civil and criminal prohibitions for adults over the age

of 21 who grow, manufacture and distribute marijuana as long as it is consistent with the state’s

marijuana licensing and regulatory system. It kept it illegal for under-age persons to grow, sell,

possess marijuana, and from anyone to sell any products containing marijuana to persons under

the age of 21. Washington State also required proper licenses to legally grow and distribute

marijuana, and mandated regular quality testing of marijuana products. It also required an excise

tax on all sales of marijuana.19

By 2014, 23 states and the District of Columbia (2015) passed laws legalizing the use of medical

marijuana, and four legalized the recreational use of marijuana (See diagram map, page 6).20

Federal Guidance in Response to State Actions

The federal government/Department of Justice (DOJ) became faced with the fact that several states

were not only enacting laws legalizing both the sale of, and the use of, marijuana for medicinal

purposes, but also recreationally. How is this even possible when the federal government has ruled

marijuana to be an illegal substance? Why did the DOJ not come back and just invalidate those

states’ laws legalizing marijuana? After all, federal laws overrule state laws when there is a

conflict, right? And surely, the fact that state laws legalizing marijuana conflicts with federal laws

prohibiting marijuana is a perfect example where federal laws dominate, right? No, not exactly.

Here is the reason why. To better understand the concept of how states can enact laws that are in

conflict with federal laws, one must look at the Tenth Amendment of the U.S. Constitution, which

says that, “The federal government possesses only those powers

18 Legislative Council Colorado General Assembly, “2012 State Ballot Information Booklet”, 727-397-14,

(2012): 30-31. http://www.colorado.gov/cs/satellite?blobcol=urldata+blobheader=

application52Fpdf+blobkey=id+blobtable=mongoblobs+blobwhere=1251822971738+ssbinary=true.

19 Washington Secretary of State, “Complete Text: Initiative Measure 502”, (2012).

https://wei.sos.wa.gov/agency/osos/en/press_and_research/PreviousElections/2012/General-Election/Documents/I-

502_complete_text.pdf.

20 NORML, “Daily Chart: Pot Luck”, The Economist, November 19, 2014. Available at:

http://www.economist.com/blogs/graphicdetail/2014/11/daily-chart-11.

6

delegated to it by the Constitution. All remaining powers are reserved for the states or the

people.”21 The U.S. Supreme Court ruled in Gonzales v. Raich (2005) that Congress has the power

to enact federal prohibitions on marijuana,22 but even if the federal government wanted to preempt

state marijuana laws, its power to do so is inherently limited.23 So in essence, the limitations of

the Tenth Amendment and the power of states to have control or authority over persons and

property within its territory is what prevents the federal government from forcing states to

“participate in enforcing a federal regulatory scheme, and prohibited it from commandeering state

legislatures and executive officers to act as a conduit for implementation and enforcement of

21 Wikipedia, s.v “Tenth Amendment of the U.S. Constitution”,

https://en.wikipedia.org/wiki/Tenth_Amendment_to_the_United_States_Constitution

22 Wikipedia, s.v “Gonzales v. Raich, 545 U.S. 1” (2005),

https://en.wikipedia.org/wiki/Gonzales_v._Raich

23 Sam Kamin and Eli Wald, “Marijuana Lawyers: Outlaws or Crusaders,” 91 Oregon Law Review 869,

(2013): 880.

7

federal law,”24 which means that the DOJ cannot force states to create a state law criminalizing

marijuana conduct. A state can decide not to criminalize conduct under state law even if the

conduct violates federal law.

As a result of states enacting laws authorizing the medical use of marijuana, DOJ Deputy Attorney

General (DAAG) David W. Ogden (under Attorney General Eric Holder) issued a memorandum

on October 19, 2009, in order to provide guidance to federal prosecutors concerning marijuana

enforcement under the CSA, herein referred to as “the Ogden memo (2009).”25 DAAG Ogden

stated that DOJ was still committed to enforcing the CSA in all states, but decided it would use a

“rational use” approach on limited investigative and prosecutorial resources. He allowed

prosecutors the use of discretion consistent with DOJ’s priorities. He emphasized that DOJ’s

priority was investigating and prosecuting significant drug traffickers of illegal drugs, including

marijuana, but that resources should not be focused on individuals who are complying with state

laws allowing for the use of medical marijuana.

The Ogden memo sought to differentiate the use of limited federal resources on persons who were

being treated for an illness, i.e., cancer or glaucoma, who were using marijuana as part of a

recommended treatment, and were in compliance with their states’ laws allowing for the use of

medical marijuana; and/or their caregivers providing those in treatment with marijuana in

compliance with state law. Pursuing these types of cases was viewed as not being an efficient use

of limited federal resources; whereas prosecuting a drug trafficking organization (DTO) or Cartel

that unlawfully markets and sells marijuana for profit was viewed as being consistent with DOJ’s

priorities.

Further DOJ guidance was necessary when states enacted laws that legalized the possession of

small amounts of marijuana and provided for the regulation of the production, processing and sale

of marijuana. On August 29, 2014, DAAG Attorney General James M. Cole issued updated

guidance in his memo regarding marijuana enforcement, herein referred to as “the Cole memo.”

It was aimed at all federal enforcement activities, to include civil and criminal investigations and

prosecutions regarding marijuana in all states. DAAG Cole reiterated that the DOJ was committed

to enforcing the CSA, and the sale, possession and distribution of marijuana was still illegal under

federal law. He emphasized that use of limited federal investigative and prosecutorial resources

would be focused on the most significant threats. He further defined eight particular enforcement

24 Wikipedia s.v. “South Dakota v. Dole, 483 U.S. 203” (1987); and “New York v. United States, 505 U.S.

144” (1992): 188.

25 David W. Ogden, U.S. Department of Justice, Office of the Deputy Attorney General, , “Memorandum

for Investigations and Prosecutions in States Authorizing the Medical Use of Marijuana”, (October 19, 2009).

http://www.justice.gov/sites/default/files/opa/legacy/2009/10/19/medical-marijuana.pdf.

8

priorities listed below that would be used as guidance in the enforcement of the CSA against

marijuana-related conduct.26

Preventing the distribution of marijuana to minors;

Preventing revenue from the sale of marijuana from going to criminal enterprises, gangs

and cartels;

Preventing the diversion of marijuana from states where it is legal under state law in some

form to other states;

Preventing state-authorized marijuana activity from being used as a cover or pretext for

the trafficking of other illegal drugs or other illegal activity;

Preventing violence and the use of firearms in the cultivation and distribution of

marijuana;

Preventing drugged driving and the exacerbation of other adverse public health

consequences associated with marijuana use;

Preventing the growing of marijuana on public lands; and

Preventing marijuana possession or use on federal property.

DAAG Cole emphasized that with these being the priorities guiding federal enforcement and

prosecutions, it is with the understanding that those states that have enacted laws authorizing

marijuana use, possession, production and distribution have established a regulatory scheme that

has strong and effective regulatory and enforcement systems to address any threats those state laws

on marijuana activity could pose to public safety, public health, and other law enforcement

interests.27 So basically, it is up to the states to provide ample resources to enforce their state laws

regarding marijuana activity in a manner that does not undermine the eight afore-mentioned federal

enforcement priorities highlighted by DAAG Cole, or the federal government would step in with

enforcement action, if deemed necessary.

Now, the guidance given in DAAG Cole’s 2013 memo was focused on highlighting the eight

federal enforcement priorities in enforcing the CSA against marijuana-related activity. It did not

address the impact regarding marijuana legalization regarding certain financial crimes where

marijuana activity could be prosecuted under money laundering statutes; and herein lies the

problem facing the financial industry. Financial transactions involving proceeds generated by

marijuana-related conduct (i.e., legal marijuana businesses conducting business in accordance with

state laws) can be the basis for criminal prosecution under money laundering statutes. So the

problem with those financial institutions that conduct transactions with money generated by

26 James M. Cole, U.S. Department of Justice, Office of the Deputy Attorney General, “Memorandum for

Guidance Regarding Marijuana Enforcement”, (August 29, 2013) 1-2.

http://www.justice.gov/iso/opa/resources/3052013829132756857467.pdf

27 Cole, “Memorandum for Guidance Regarding Marijuana Enforcement,” 2.

9

marijuana-related conduct could face criminal liability under the Bank Secrecy Act (BSA) because

they did not identify or report financial transactions involving the proceeds of marijuana-related

violations of the CSA.28 DAAG Cole again issued clarification in determining whether or not to

charge individuals or institutions with money laundering statutes. He said in instances where

financial institutions are providing banking services to a marijuana business knowing that the

marijuana business is diverting marijuana sales from a legalized state to another where it is illegal;

or if the financial institution is being used by a criminal organization to conduct financial

transactions that the financial institution would be liable and could be charged with violating

money laundering statutes. On the other hand, if a financial institution or person offering services

to a legal marijuana business who is in compliance and not violating any of the eight federal

priorities, might not be prosecuted. Financial institutions are required to apply risk-based anti-

money laundering (AML) policies and procedures and controls to address the risks posed by

marijuana businesses.29 The part where financial institutions “might not” be prosecuted did not sit

well with the financial industry because they did not offer any clear assurances that they would

not be prosecuted even though the marijuana business was legal, and in compliance with state

laws.

On February 14, 2014, the Financial Crimes Enforcement Network (FinCEN) issued its own

guidance in order to clarify matters concerning BSA expectations regarding marijuana-related

businesses, herein referred to as “the FinCEN memo.” It attempted to clarify how it expected to

enforce the BSA now that there are permissive state laws, and tried to allay some of the concerns

the financial industry had in fulfilling its BSA obligations so as not to become targets of law

enforcement, should members of the financial industry decide to offer services to marijuana-

related businesses.

The FinCEN memo called for financial institutions to perform risk assessments and conduct

extensive customer due diligence (CDD) in determining whether or not to offer services to

marijuana businesses. Listed below, FinCEN emphasized seven elements of due diligence it

expected financial institutions to undertake:30

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;

28 Cole, “Memorandum for Guidance Regarding Marijuana Enforcement,” 2.

29 Cole, “Memorandum for Guidance Regarding Marijuana Enforcement,” 3.

30 Department of Treasury, FinCEN, “Guidance: BSA Expectations Regarding Marijuana Related

Businesses,” FIN-2014-G001, (February 14, 2014): 2. http://www.fincen.gov/statutes_regs/guidance/html/FIN-

2014-G001.html

10

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 CDD on a periodic basis and commensurate

with the risk. With respect to information regarding state licensure obtained in connection

with such CDD, a financial institution may reasonably rely on the accuracy of information

provided by state licensing authorities, where states make such information available.

FinCEN also established three types of new suspicious activity report (SAR) formats31 to be

implemented tailored to the marijuana businesses that financial institutions would have to file. The

first is “Marijuana Limited” SAR. This described marijuana clients who did not appear to violate

any of the eight federal priorities previously discussed in the Cole memo or violate state law. The

“Marijuana Limited” SAR would be filed only because it is a marijuana business, but no suspicious

activity identified. The second type of SAR is “Marijuana Priority,” and is filed where clients are

believed to be either violating state law or one of more of the Cole memo’s eight federal priorities.

The third and last type of SAR is “Marijuana Termination,” and is used in cases where banks

decide to terminate its relationship with a marijuana business client, and may alert another financial

institution about possible illegal activity.

The problem even with FinCEN’s guidance was that members of the financial industry felt they

were being made to conduct policing duties on those marijuana business clients, which they did

not have the resources to conduct. The level of scrutiny was being made much higher for

marijuana-related businesses that went beyond what was being required on any other potential type

of client. And then when everything was said and done, there was still that caveat by DOJ that

members of the financial industry could still be held accountable, criminally and civilly, if their

marijuana clients were found to have violated the law. It is understandable why many in the

financial industry take a hands-off approach concerning marijuana businesses.

This paper’s author interviewed Alex Chacaltana, business services representative with First

Citizens Bank, in Arlington, Virginia, to get his perspective as a business banker concerning the

issue of providing services to marijuana-related businesses. Chacaltana was forthright when he

stated that his bank “forbids banking someone in the medical cannabis industry. They are on a

31 Department of Treasury, FinCEN, “Guidance: BSA Expectations Regarding Marijuana Related

Businesses,” 3-4.

11

“prohibitive list,” which forbids banking a business that may be legally recognized by the state

where the business resides to possess, grow, transport and/or use medical cannabis/medical

marijuana by its customers.” Chacaltana said it was also the same policy at Capital One Bank in

Falls Church, Virginia, where he was previously employed.32

These sentiments were echoed at a financial investigations conference this paper’s author attended

where Mark Trouville, director of AML investigations, Wells Fargo, had made in San Diego,

California. Trouville spoke about law enforcement working with banks to identify hidden assets,

in which he briefly mentioned marijuana businesses and said, “We don’t bank them. Won’t even

consider them.”33

What many believe the main issue to be centers around the fact that marijuana’s classification as

a Schedule 1 narcotic at the federal level, makes it prohibited; and because marijuana’s prohibitive

status makes even basic financial services unavailable for those engaged in marijuana commerce.34

Impact on Key Players

Those financial institutions that initially take on legitimate marijuana businesses as clients

eventually shut the accounts down after realizing the risk and the increased scrutiny are too much

and just not worth the headaches or jeopardizing the financial institution’s reputation. Such was

the case with MBank, located outside of Portland, Oregon, in September 2014 when they were

openly providing financial services to marijuana businesses. It was the first bank to cross state

lines and openly serve Colorado marijuana businesses, take marijuana-related deposits in

Washington State, and serve Oregon-based medical marijuana dispensaries. By April 2015,

MBank CEO Jeff Baker announced they were dropping all of its marijuana clients claiming that

MBank did not have the resources necessary to manage the compliance requirements for banks

maintaining accounts for legal marijuana businesses.35 Others attributed the real reason was

because federal regulators had audited MBank’s records over an extended period, resulting in

32 Mr. Alex Chacaltana, Business Services Representative, Business Banking, First Citizens Bank,

Arlington, Virginia. Personal interview. June 25, 2015.

33 Mr. Mark Trouville, Director, AML Investigations, Wells Fargo. Comments made at a DEA

administrative undercover financial investigations conference. San Diego, California. May 13, 2015.

34 Sam Kamin and Joel Warner, “Your Money Stinks: Why Banks Won’t Do Business With the Marijuana

Industry”, Slate Magazine, January 24, 2014.

http://www.slate.com/articles/news_and_politics/alternate_slate/2014/01/Colorado_marijuana_business_have_a_big_problem_banks_won’t_take_their.html.

35 David Migoya, “Oregon Bank that Wanted Pot Accounts in Colorado is Ditching Them All”, The

Denver Post, April 2015. http://www.denverpost.com/business/ci_27905128/oregon-bank-that-wanted-pot-

accounts-is-ditching-them-all.

12

downgrading the institution’s rating and indicated marijuana deposits might be too risky to

handle.36

In spite of the guidance given from both DOJ and FinCEN on how financial institutions could

provide services to marijuana businesses, the problem remains. Although the guidance aims to be

helpful, it does not fully address how rigorous an institution’s AML program has to be or what

enhancements to the program were required to get to that level where it would be acceptable to

have marijuana businesses as clients, so that a financial institution’s reputation was not unfairly

stigmatized or downgraded. As a result, many financial institutions were expending a considerable

amount of time and resources to remediate their AML compliance program to meet a bar set so

high by regulators. Even if a financial institution was fully compliant with BSA and AML laws,

followed all of DOJ and FinCEN’s guidance to the letter, there is still no guarantee of protection

from prosecution for conducting financial transactions with legal marijuana businesses.

Also affected are the legal marijuana businesses that are denied basic financial services because

marijuana is still illegal federally. This creates problems for the marijuana businesses in at least

two ways. First, marijuana businesses are forced to operate as a “cash-only” business. This creates

a safety issue in that marijuana businesses become targets for robbery since the money generated

from sales of marijuana cannot be deposited into a business account at a bank or credit union

compared to other commercial businesses, i.e., restaurants, clothing stores or other

merchandise/retail businesses.

The second problem is that because marijuana businesses have no choice but to operate on a “cash-

only” basis, there is no real digital “paper trail” for auditing purposes. This leads one to the

realization that in order for marijuana money to be traceable in the legitimate financial system and

subject to stringent compliance programs—both within the marijuana business and the financial

institutions that handle their money—this means having access to banks.37

When one stops to think about it, it is a bit of an oxymoron. Here the federal government tells the

states that have passed laws legalizing the use of marijuana that they have to have a strong

regulatory framework and the resources to enforce compliance with the states’ laws regarding

marijuana activity so that it does not undermine the eight federal enforcement priorities highlighted

in the Cole memo, or the federal government would step in with its own enforcement actions, if

necessary. But part of the states’ regulatory framework includes taxing marijuana businesses, and

auditing their books as part of a compliance program. What better way to keep track of finances

36 David Migoya, “Oregon Bank that Wanted Pot Accounts in Colorado is Ditching Them All”, The

Denver Post, April 2015. http://www.denverpost.com/business/ci_27905128/oregon-bank-that-wanted-pot-

accounts-colorado-is.

37 Daniel Fisher, “Legal Marijuana Dealers and the Government Need Bankers and Lawyers”, Forbes

Magazine, January 2015. http://onforbes.es/1FOGXx5.

13

generated by providing financial services to marijuana businesses where a digital “paper trail” is

created? The way it is now with denying financial services to marijuana businesses, one can never

really obtain a clear picture. If all of the cash-based revenue is not being reported come tax time,

both the states and federal government could miss out on a lot of tax revenue, which is revenue

that could help with upkeep and maintenance of local community services, federal highways,

bridges, schools, parks, etc., not to mention making it harder to detect possible fraud and money

laundering violations.

Even more difficult for owners of marijuana-related businesses is that the Internal Revenue Service

(IRS) has banned any and all federal deductions, because every transaction involving proceeds

derived from marijuana is a federal crime. Federal Tax Rule 280E38 requires any trade or business

operating in violation of federal drug laws to pay federal income tax. A marijuana business is

required to pay taxes on its gross receipts. All other usual business overhead expenses such as

rent, utilities, employee salaries, cannot be deducted like they can in other types of businesses.39

In addition, when a business owner withholds federal taxes from its employees’ paychecks, the

IRS requires that it be done electronically, which requires a bank account. But automatically, that

is not possible when it is a marijuana business because of the difficulty the financial industry has

with providing those very types of services (bank account) that is needed by marijuana businesses,

so they can be in compliance with the IRS. And because marijuana businesses cannot withhold

federal taxes electronically without the use of a bank account, the IRS slaps them with a 10 percent

penalty fee.40 So in essence, it appears marijuana businesses are caught in a bit of a “Catch-22,”

If they try to disguise the origin of the proceeds when trying to open a bank account in order to be

in compliance with the IRS’ mandate of withholding federal taxes electronically, the very fact of

disguising the origin of the proceeds could get them prosecuted for money laundering regardless

of the fact that they are licensed and in full compliance with their state laws in operating their

marijuana business.

Possible Solutions

In moving forward, marijuana businesses as an industry continue to grow, both financially and in

popularity. Attitudes towards marijuana use have, and continue, to change. The financial industry

is faced with the predicament of providing services to this evolving market of marijuana businesses

that brings with it a high level of scrutiny from regulators that set the bar so high in requiring the

38 W. Thomas McElroy, Jr., Office of Associate Chief Counsel, Internal Revenue Service, “Memorandum

#201504011, Taxpayers Trafficking in a Schedule I or Schedule II Controlled Substance- Capitalization of

Inventoriable Costs,” (January 23, 2015): 3. http://www.irs.gov/pub/irs-wd/201504011.pdf.

39 Benjamin Moses Leff, “Tax Planning for Marijuana Dealers,” 99 Iowa Law Review 523 (2014): 532.

http://ilr.law.uiowa.edu/files/ilr.law.uiowa.edu/files/ILR_99-2_Leff.pdf

40 Jacob Sullum, “Marijuana Money is Still a Pot of Trouble for Banks,” Forbes Magazine, September

2014. http://onforb.es/1mjyIDo.

14

maintaining of effective AML compliance programs which address the risks and challenges

brought on by the very nature of this type of business clientele. Together, with both the guidance

offered in the Cole memo, regarding how financial institutions should apply risk-based AML

policies and procedures and controls when dealing with marijuana businesses who are in

compliance and not violating any of the eight federal priorities; and the guidance offered in the

FinCEN memo regarding financial institutions fulfilling their BSA obligations so as not to become

targets of law enforcement, there are proactive steps that can address this issue facing the financial

industry. Some of these can be implemented by financial institutions themselves, while others will

require legislative actions. The following are steps41 that can help to address emerging risks

associated with marijuana businesses:

Update risk assessment methodology to incorporate the direct and indirect risks of the

Cannabusiness industry;

Incorporate pertinent information requests into the CDD/EDD processes to enable

identification of Cannabusiness customers and businesses associated with the

Cannabusiness industry;

Develop red flags and enhance monitoring procedures to help identify illicit marijuana-

related activities; and

Develop and conduct training on the risks of the Cannabusiness industry for compliance

and internal audit personnel

Granted, these alone will not solve the dilemma facing the financial industry without legislative

actions taking place. Although attitudes towards marijuana legalization and use have changed, the

federal government’s present stance has not, and may not change. Marijuana does not necessarily

have to be legal in order for financial institutions to offer financial services to legal marijuana-

related businesses. In April 2015, bipartisan legislation was introduced into the House of

Representatives. As summarized below, The Marijuana Business Access to Banking Act of 2015

(H.R. 2076)42 sponsored by Rep. Edward Perlmutter, would create protections for depository

institutions that provide financial services to marijuana-related businesses. H.R. 2076 would

provide “safe harbor” (protection) for those financial institutions that provide financial services to

marijuana-related businesses in that it:

Prohibits a federal banking regulator from:

41 Protiviti, “Servicing Legalized Marijuana Businesses: Weighing the Risks in Light of the FinCEN

Guidance,” (2014): 4. http://www.protiviti.com/en-US/Documents/POV/Impact-of-legalizing-marijuana-on-AML-compliance-POV.pdf.

42 Congressional Research Service, Summary of H.R. 2076- 114th Congress (2015-2016) sponsored by Rep.

Edward Perlmutter (D-CO-7), “Marijuana Businesses Access to Banking Act of 2015.

https://www.congress.gov/bill/114th-congress/house-bill/2076.

15

(1) Terminating or limiting the deposit or share insurance of a depository institution solely

because it provides financial services to a marijuana-related legitimate business; or

(2) Prohibiting, penalizing, or otherwise discouraging a depository institution from offering

such services.

A federal banking regulator may neither recommend, motivate, provide incentives, nor

encourage a depository institution to refuse to offer financial services to an individual, nor

downgrade or cancel financial services offered to an individual, solely because the

individual:

(1) is a manufacturer, producer, owner or operator of a marijuana-related legitimate

business; or

(2) the depository institution was not aware that the individual is the owner or operator of

a marijuana-related legitimate business.

A federal banking regulator may not take any adverse or corrective supervisory action,

solely because of the business involved, on a loan made to an owner or operator of:

(1) a marijuana-related legitimate business, or

(2) real estate or equipment that is leased to a marijuana-related legitimate business.

Immunity from federal criminal prosecution or investigation is granted, subject to certain

conditions, to a depository institution that provides financial services to a marijuana-related

legitimate business in a state or one of its political subdivisions that allows the cultivation,

production, manufacture, sale, transportation, display, dispensing, distribution, or purchase

of marijuana. Neither the depository institution nor its officers, directors, nor employees

may be held liable under federal law or regulation solely for providing such financial

services or further investing income derived from those services.

The Department of the Treasury must require any suspicious activity report filed by a

financial institution regarding a marijuana-based business to comply with specified

guidance of the Financial Crimes Enforcement Network.

The Senate also introduced a bipartisan bill that specifically seeks to reduce the federal

government’s war on medical marijuana, called “The Compassionate Access, Research Expansion

and Respect States (CARERS) Act”43 (2015), introduced by Sens. Cory Booker (D-NJ), Rand Paul

(R-KY) and Kirsten Gillibrand (D-NY). In summary, its goals are aimed in support of state-legal

medical marijuana programs, and to encourage more research of marijuana through changes in

federal law. It would amend the CSA, so that states can set their own medical marijuana policies.

It would also reclassify marijuana from a Schedule 1 drug to a Schedule II drug, a classification

for less dangerous drugs that are deemed having an accepted medical use. As it pertains to

financial institutions, this legislation would expand banking access for medical marijuana

businesses, allowing them to function like traditional businesses. Furthermore, the CARERS Act

43 Matt Ferner, “Senate Bill Would Effectively End the Federal War On Medical Marijuana,” Huffington

Post, March 10, 2015. http://www.huffingtonpost.com/2015/03/10/end-federal-war-on-medical-

Marijuana_n_6836482.html.

16

would lift the ban and allow for Veteran Affair doctors to recommend medical marijuana to veteran

patients suffering from certain conditions where it is legal to do so under state law. Congress will

decide on these bills. Perhaps relief is finally in sight that will assist the financial industry with

this issue of being reluctant to offer services to marijuana businesses.

Conclusion

Financial institutions have a dilemma with providing services to marijuana businesses. In spite of

the guidance given by DOJ or FinCEN, members of the financial industry feel the odds are against

them, because they can still be held accountable, both criminally and civilly, if marijuana

businesses are found to have violated the law. In addition, should they decide to offer services,

financial institutions feel they are held to a higher degree of scrutiny by regulators who set the bar

so high in requiring the maintaining of effective AML compliance programs brought on by the

very nature of having a client whose business is marijuana related. By adhering to the guidance

offered in the Cole and FinCEN memos, financial institutions should apply risk-based AML

policies and procedures and controls when dealing with marijuana businesses. In fulfilling their

BSA obligations, financial institutions can take steps to better prepare themselves in dealing with

emerging risks associated with marijuana businesses; thereby minimizing the risk of their

institution’s rating being downgraded or other such penalties imposed by regulators, and to also

help avoid becoming targets of law enforcement.

Proactive steps taken by members of the financial industry to address emerging risks associated

with marijuana businesses alone will not solve the problem. For there to be a solution, it would

have to include legislative actions that create protections for those financial institutions that

provide services to marijuana-related businesses; and/or perhaps, addressing the issue of

reclassifying marijuana from a Schedule I drug should also be examined for its possibilities.

17

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APPENDIX A: FIVE SCHEDULES OF DRUGS

Schedule I

The drug or other substance has a high potential for abuse.

The drug or other substance has no currently accepted

medical use in treatment in the United States.

There is a lack of accepted safety for use of the drug or other

substance under medical supervision.

Examples of Schedule I substances include heroin, gamma

hydroxybutyric acid (GHB), lysergic acid diethylamide (LSD),

marijuana, and methaqualone.

Schedule II

The drug or other substance has a high potential for abuse.

The drug or other substance has a currently accepted medical

use in treatment in the United States or a currently accepted

medical use with severe restrictions.

Abuse of the drug or other substance may lead to severe

psychological or physical dependence.

Examples of Schedule II substances include morphine, .

phencyclidine (PCP), cocaine, methadone, hydrocodone,

fentanyl, and methamphetamine.

Schedule III

The drug or other substance has less potential for abuse than

the drugs or other substances in Schedules I and II.

The drug or other substance has a currently accepted medical

use in treatment in the United States.

Abuse of the drug or other substance may lead to moderate or

low physical dependence or high psychological dependence.

Examples of Schedule III substances include anabolic steroids,

codeine and hydrocodone products with aspirin or Tylenol®,

and some barbiturates.

Schedule IV

The drug or other substance has a low potential for abuse

relative to the drugs or other substances in Schedule III.

The drug or other substance has a currently accepted medical

use in treatment in the United States.

Abuse of the drug or other substance may lead to limited

22

physical dependence or psychological dependence relative to

the drugs or other substances in Schedule III.

Examples of drugs included in Schedule IV are alprazolam,

clonazepam, and diazepam.

Schedule V

The drug or other substance has a low potential for abuse

relative to the drugs or other substances in Schedule IV.

The drug or other substance has a currently accepted

medical use in treatment in the United States.

Abuse of the drug or other substances may lead to limited

physical dependence or psychological dependence relative

to the drugs or other substances in Schedule IV.

Examples are cough medicines with codeine.