Are cannabis tenants cause for concern?

Are cannabis tenants cause for concern?

Now that California voters have approved cannabis for both medical and adult use, businesses tied to the crop will need warehouse space to process cannabis and office space to run the operations.

Because cannabis remains federally a Schedule 1 illegal drug under the Controlled Substances Act, local banks shun related business for fear of federal scrutiny or crackdowns. Cash dominates the industry, and landlords who rent to cannabis-related businesses typically see rent paid with wads of bills.

“This is such a brand new world,” said Don Black, attorney and co-managing director of the Anderson Zeigler law firm based in Santa Rosa. “Laws just went into effect this year,” he said, noting the Medical Cannabis Regulation and Safety Act (MCRSA), was enacted in September 2015 and became effective Jan. 1, 2016. “None of the regulations under them have been promulgated yet.” 

MCRSA, along with newly passed Proposition 64, create statutory underpinnings for the fast-emerging industry, including cannabis cultivation, distribution, manufacturing, testing and transporting, Black said. Cannabis businesses cannot operate legally without state licenses, and such licenses cannot be obtained without local permits.

SANTA ROSA OUT IN FRONT

“Santa Rosa has taken a real lead on this by getting its program started,” Black said. “Sonoma County is a little bit farther behind.”

The state will regulate safety of the products produced in the industry, Black said, imposing testing requirements for “anything that’s grown or made with cannabis — every piece of it has to be tested. They’re worried about consumer safety.”

Local officials will be concerned with determining appropriate locations for cannabis-related businesses and enforcing zoning, Black said, along with building codes and production safety, including toxicity and manufacturing methods.

“When you want to extract oil from the marijuana plant in order to make other products such as foodstuffs or topicals, there are two ways,” he said. One uses carbon dioxide. The other uses butane.

LEGAL SMOKE CLEARS
Laws affecting the cannabis industry are “getting less murky as the years go by,” Black said, especially after the U.S. Court of Appeals for the 9th Circuit ruled in August that a 2014 budget measure bars the Dept. of Justice from using its resources to prosecute people in the cannabis industry who operate in compliance with state law. The court sent 10 cases back to trial courts in California and Washington to determine if defendants had violated state laws. However, the Trump administration could change federal enforcement priorities and seek funding for prosecution.

As long as the Dept. of Justice has its budget constrained and “as long as the 9th Circuit ruling doesn’t get overturned by the Supreme Court,” Black said, “Federal prosecutors will not be given permission to prosecute anybody who is in compliance with whichever state law they have to follow,” he said. The cannabis industry is evolving toward state-governed commerce.

Passage of Prop. 64 will provide “some comfort for landlords,” said Black, who represents about five landlords dealing with cannabis-related tenants. Cities in Sonoma County that welcome cannabis enterprise include Santa Rosa, Sebastopol and Cloverdale. Sonoma County’s board of supervisors has also shown willingness to allow cannabis business in unincorporated regions.

“This is an exciting time,” Black said. “It’s new and interesting, ever-changing as it evolves. It is clearly being modeled on an industry we know well — the wine industry. It’s new and exciting, but also familiar.”

 

REGULATORY CLEARANCES AND BUILDING UPGRADES

Landlords renting to cannabis businesses must require tenants to obtain necessary local permits, including zoning, building permits, compliance with environmental-quality laws, and safety measures.

“Releases into the air, into the water and sewer system” must be in compliance, he said. “The amount of water, amount of electricity — all those things are concerns.”

Some tenants will need water-filtration or air-filtration systems.

 “You want a document saying that the tenant agrees to take that responsibility and what the landlord’s remedies are if they don’t,” Black said. “Those are all lease terms. Commercial leases are a couple of dozen pages. The use provision, alteration provision, maintenance provision all come into play.”
 

Landlords typically want to push as much responsibility as possible for all these concerns onto the tenant and to outline consequences for tenants who don’t fulfill those responsibilities. “On the commercial side, no landlord wants a tenant putting in fixtures or equipment that don’t meet code,” he said, “whether its grow lights or watering systems for cannabis,” or in a shopping center, a tenant that installs mirrors and lights for a retail outlet.

RENT IN CASH

“One aspect of the cannabis industry landlords are facing for the first time,” Black said, is that cannabis is “a cash industry. Tenants expect landlords to accept monthly rent paid in cash.” 

On some spaces being rented, monthly rent exceeds $10,000 or $12,000. Whenever a landlord deposits cash exceeding $10,000, its bank is required to submit suspicious-activity reports to the federal government. “The landlord is saying, ‘This is a pain,’ Black said. ‘This does not fit my business model. Any bad guy out there who sees that it’s the first day of the month — there’s going to be something arriving. There is a security issue.’”

Some landlords have written into their leases that cannabis tenants cannot pay rent in cash, Black said. Even a money order must be reported by the bank, so that doesn’t solve the problem. “Any federally insured institution is going to have the same reaction,” he said.

Differences between state and federal laws have created tension for the country throughout its history on many issues beyond cannabis regulation, he noted.

“Where’s the balance?” he asked. “There has been a remarkable sea change over the last two or three years” in dealing with cannabis-related business, he said.

LESS-RISKY INDUSTRY

The industry is no longer considered risky.

“I don’t think it’s unsavory,” he said. “It’s an industry that’s trying to come in from the shadows. That is part of the excitement. This is 1933 all over,” when prohibition of alcohol was ended. “It has been in the shadows since the early 1930s.”

“Our clients are business people,” Black said. “They do risk-benefit analysis. Risks changed rapidly over the last two or three years. Every landlord wants the perfect tenant who is going to be successful for 20 years.”

Some landlords worry about how a cannabis business affects nearby tenants. “The mix in a mixed-use property is critical to decision-making,” Black said. “Those concerns are much more heightened in retail.”

Photo: Associated Press
This article first appeared in the North Bay Business Journal. James Dunn covers technology, biotech, law, the food industry, and banking and finance. Reach him at james.dunn@busjrnl.com or 707-521-4257

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