Practical considerations for insuring cannabis, hemp & CBD

The conflict between state and federal laws puts traditional federal “rights” out of reach for cannabis businesses and insurers.

Insurers must understand the differences between marijuana, hemp and CBD when offering coverage for these products and their manufacture. (Photo: Shutterstock)

Despite its complete illegality on the federal level, cannabis is big business in the United States, projected to reach $30 billion by 2025 according to some estimates. Even if these projections turn out to be overly rosy, the growth of the industry — and the recent federal legalization of hemp under the 2018 Farm Bill that resulted in an explosion in CBD sales nationwide — brings with it sophisticated operators who are transforming how business is done. This includes a new demand for risk mitigation, like insurance products that did not exist a few years ago.

Industry appetite for the sector is apparent from federal legislation introduced in Congress, including the Secure And Fair Enforcement (SAFE) Banking Act of 2019 (which creates safe harbors for banks servicing that industry) and the Clarifying Law Around Insurance of Marijuana (CLAIM) Act (which does the same thing for the insurance industry). Neither piece of legislation has been enacted into law, however, and when it comes to “state legal” cannabis, fully legal hemp, and a CBD industry in flux, one size does not fit all.

The differences between marijuana, hemp & CBD

First, insurance professionals need to understand the distinguishing characteristics of marijuana, hemp and CBD. The difference between marijuana and hemp comes down to the amount of delta-9 tetrahydrocannabinol (THC), the intoxicating ingredient that gives cannabis its “high.” Both marijuana and hemp are varieties of cannabis, but hemp (under its current legal definition) contains only trace amounts (less than 0.3% on a dry weight basis) of THC.

Marijuana is any variety of cannabis with more than 0.3% THC (basically any cannabis that is not hemp). While cannabis and marijuana can be interchangeable as terms — with the more clinical sounding “cannabis” preferred by businesses and legislatures — the terms are helpful to keep distinct when discussing hemp (the low THC variety of cannabis). Cannabidiol (CBD) is the non-intoxicating ingredient found in cannabis which can be extracted from both marijuana or hemp plants.

Marijuana is a controlled substance, both domestically under the Controlled Substances Act (CSA), and internationally under the Single Convention on Narcotic Drugs of 1961. Traditionally, the federal government has treated all cannabis as a Schedule I controlled substance under the CSA, which is the most restricted drug category, reserved for drugs, which (a) have a high potential for abuse, (b) have no currently accepted medical use in treatment in the United States, and (c) lack safety in use under medical supervision. [See 21 U.S.C.A. § 812(b)(1).] While this runs contrary to state-level medical marijuana regimes (which by definition recognize that marijuana has an accepted medical use), so long as marijuana remains illegal under the CSA it remains illegal nationally, as state laws do not override the CSA.

A new growth industry

The growth of the industry over the past decade has largely been a matter of discretional non-prosecution. Although federal legalization is a long way off, a patchwork of federal legislation and regulation has aimed at dealing with what has been a booming industry. This includes the “Rohrbacher-Farr Amendment” to the federal budget, which prohibits the federal government from expending resources on prosecuting state-legal medical marijuana businesses, as well as more recent attempts to pass the SAFE Banking and CLAIM Acts to address banking and insurance directly. Only the Rohrbacher-Farr Amendment is actually in force, and while the SAFE Banking Act has advanced in the House, the CLAIMS Act is still in House committee on financial services.

The federal illegality of marijuana and poor access to banking has resulted in the industry being mostly a cash business (with dispensaries sometimes holding millions of dollars in cash on hand), circumnavigating a patchwork of inconsistent state-level regulations. From a risk-management perspective, both “leaf-touching” businesses (like growers and dispensaries), and “non-leaf touching” businesses (like suppliers of equipment and even professional services) must contend with the fact that they may be violating federal conspiracy, aiding and abetting, accessory after the fact, and anti-money laundering statutes. (See 18 U.S.C. §§ 2, 3, 846, 1956 and 1957). All of these offenses carry considerable penalties and prison time. Until the CLAIM Act or an equivalent becomes law, insurers face similar risks.

Any underwriting process must take into account the enforcement and prosecution priorities outlined in the now rescinded “Cole Memorandum,” which serves as the basis for the current Department of the Treasury FinCen guidance, with respect to marijuana businesses. As many marijuana businesses are cash-based with poor recordkeeping and unreliable financial statements, the underwriting process is especially challenging.

Insurers should remember that federal prohibition puts federal “rights” out of reach, making marijuana businesses unable to register federal trademarks, possibly enforce their patents, take advantage of the bankruptcy code, take certain federal tax deductions or even employ or retain foreign-born employees. These considerations should be taken into account during the underwriting process.

Existing legislation

In December 2018, President Trump signed the 2018 Farm Bill into law. The law addresses: (a) removing hemp and its derivatives from Schedule I, (b) laying out how hemp may be legally cultivated in accordance with a plan adopted or approved by the U.S. Department of Agriculture (USDA), and (c) eventually permitting transportation of industrial hemp across state lines (notwithstanding any state-level prohibition on the cultivation or sale of hemp).

On October 31, 2019, the USDA published its interim final rule for hemp cultivation and should begin approving state submitted cultivation plans, hopefully early this year. Among other things, the USDA rule will allow commercial hemp producers to insure their crops for the crop year 2020 through the USDA’s Whole-Farm Revenue Protection program.

Once the USDA adopts or approves hemp cultivation plans, it is expected that, for the most part, businesses that make products (other than CBD) derived from legal hemp will generally deal with laws and regulations applicable to other agricultural commodities and products.  Non-CBD products include:

Still, as recently demonstrated by California’s seizure and destruction of over $1 billion of hemp that turned out to be marijuana, a grower may, in fact, be growing marijuana (purposefully or inadvertently). Insurers must also pay close attention to the transportation of hemp from the grower to a production facility, as shipments may be seized by the authorities if the hemp transported exceeds the extremely low THC threshold.

Regulating hemp & CBD products

At this time, CBD is the highest margin use for hemp. Unlike other hemp products, CBD has drawn the attention of the U.S. Food and Drug Administration (FDA), as well as state-level regulators. The FDA asserts jurisdiction over products containing CBD under the Federal Food, Drug, and Cosmetic Act (FD&C Act) and section 351 of the Public Health Service Act (PHSA) because it previously approved the substance as an “active ingredient” in an epilepsy drug (called Epidolex).

Although the CBD industry takes the position that CBD should be regulated as a dietary supplement under the laxer Dietary Supplements Health and Education Act (DSHEA) portion of the FD&C Act, the FDA maintains that is not the case (at least until it completes its rulemaking process with respect to CBD). So far, the FDA has limited itself to issuing warning letters, mostly to companies making unsubstantiated health claims with respect to conditions CBD can treat. Those warning letters, however, also note that many of those companies’ products do not comply with the FDC&A, especially (but not exclusively) “ingestible” products to which CBD is added. Several cities and states have followed suit, banning (or severely limiting) food and beverages containing CBD from store shelves.

Private litigants have been far more active, bringing multiple lawsuits against companies in the CBD supply chain. These lawsuits, (often styled as shareholder class actions), have either focused on the claims and products identified in FDA warning letters, or on “hemp-derived” CBD products that in fact contain more than 0.3% THC (and are therefore by definition not “hemp-derived”).

One such early example was the Dixie X Dew Drops case, in which a truck driver was allowed to pursue claims concerning the marketing and sale of a CBD additive that was (allegedly falsely) advertised as having no THC against the manufacturer, distributor and the financier involved in the venture. [See Horn v. Medical Marijuana, Inc., 15-CV-701 (W.D.N.Y. Apr. 17, 2019).] More recently, the vaping lung illness crises have been tied to smokable THC and CBD. If a connection is ultimately established, more litigation is sure to come.

This is all to say that insuring the cannabis industry is not for the faint of heart.

Alex Malyshev (Malyshev@clm.com) is counsel at Carter Ledyard & Milburn and co-chair of the Cannabis, Hemp & CBD practice group.

For more information on providing insurance to the cannabis, CBD and hemp industries, join us at the America’s Claims Executive Leadership Forum & Expo in New Orleans, April 20-22, 2020.

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