Like the opening bell on the trading floor of the Stock Exchange, the reintroduction in Congress last week of the long-awaited Secure and Fair Enforcement (SAFE) Banking Act and related Clarifying Law Around Insurance of Marijuana (CLAIM) Act was a call to action for carriers and insurance brokers across the country. Together, the bills create a legal safe harbor for providing financial and insurance services to cannabis-related businesses. If passed, these bills will be a game-changer for banks and insurance companies that wish to engage with plant-touching cannabis businesses and the multitudes of ancillary service providers that support the cannabis industry. Below, we describe how this pending legislation may impact the existing and future cannabis insurance industry and certain types of cannabis-related risks.
The Current U.S. Cannabis Insurance Market
There are upwards of 30 surplus lines carriers and several managing general underwriters that currently service the cannabis industry across many lines of coverage. There also is a small handful of admitted carriers that operate in California, and most recently in Arizona. The market capacity for property, commercial general liability, product liability and workers’ compensation coverage has expanded to the extent that it is now relatively easy for most licensed cannabis operators to find multiple coverage options. Those policies nevertheless remain more expensive than policies purchased by similarly situated companies in other markets. Other cannabis coverages have shown steady improvement, such as auto, pollution, indoor crop, crime and fidelity. Locating adequate excess insurance limits remains a problem for the larger cannabis verticals, though this, too, is steadily improving. Available and affordable options remain limited for the specialty coverages of directors and officers (D&O), errors and omissions (E&O) and cyber – those markets remain fragmented and unduly expensive.
Most large commercial insurance carriers – and particularly those that are publicly traded – remain hesitant to offer cannabis-related coverage due to ongoing fear of federal illegality. Concerns over reputational risk, meanwhile, have largely evaporated with increasing social acceptance of cannabis across age groups and political affiliations. We point out, however, that it is becoming increasingly difficult for carriers to verify that they have no “cannabis risks” on the books due to the thousands of ancillary companies that provide products and services to the cannabis industry.
The Forces that Have Paved the Way for Cannabis Insurers
Several developments have helped to speed the growth of the cannabis insurance industry over the past few years. Legalization in Canada paved the way for international insurance markets – most notably the London market – to enter (or re-enter) the space, and provided a means for developing the underwriting skills and metrics needed for eventually entering the riskier U.S. market. The 2018 Farm Bill likewise provided a pathway for carriers to enter the space by insuring what they have perceived as less-risky hemp and hemp-derived products, including CBD (cannabidiol). [Incidentally, we disagree that unregulated hemp-derived CBD is less risky to insure than regulated THC marijuana, but that’s a subject for another time…]
The cannabis insurance industry also has benefited from market forces and hindsight with the passage of time. Under the current and past two administrations (and despite early fears that federal enforcement would increase under the Trump Administration), the federal government has exhibited no interest in prosecuting plant-touching or ancillary companies engaged in state-compliant commercial marijuana activity. Relative to the insurance industry in particular, there has been no reported federal action taken to date against any insurance company or broker that works with state-compliant marijuana businesses.
The 2020 election created a significant shift that furthered the momentum toward cannabis reform at the federal and state levels. In addition to Democrats winning the presidency and controlling both chambers of Congress, five states passed ballot initiatives to legalize adult-use marijuana and medical marijuana. This included voter initiatives in Arizona, Mississippi, Montana, New Jersey and South Dakota, bringing the total number of medical marijuana states to 35 and adult use states to 15. One in three Americans now lives in a state where recreational marijuana use is legal. One should expect a further “domino effect” as 2021 progresses, with new adult-use legislation moving forward in multiple states in the Northeast, Mid-Atlantic and Upper Midwest regions.
Nothing so far, however, has the potential to “juice the market” like passage of the SAFE Banking and CLAIM acts, so now we turn our attention to the details of these two bills.
SAFE Banking Act
The SAFE Banking Act, reintroduced in 2021, was first introduced in March 2019 and has been passed by the U.S. House three times, most recently in September 2019. No Senate floor vote was allowed, however, prior to the recent change in control of the Senate. With bipartisan support and recent endorsements by the American Bankers Association, the Credit Union National Association and others, prospects for passage in the Senate appear good.
The bill creates a safe harbor for depository institutions, including banks and credit unions, to the extent they would not be liable or subject to federal forfeiture action for providing financial services to a cannabis-related business. Key protections of the bill include prohibiting a federal banking regulator from:
- Terminating or limiting the deposit insurance or share insurance of a depository institution solely because the institution provides financial services to a cannabis-related business
- Prohibiting or otherwise discouraging a depository institution from offering financial services to such a business
- Recommending, incentivizing or encouraging a depository institution not to offer financial services to an account holder solely because the account holder is affiliated with such a business
- Taking any adverse or corrective supervisory action on a loan made to a person solely because the person either owns such a business or owns real estate or equipment leased to such a business.
The SAFE Banking Act further prevents regulators from taking a corrective supervisory action on a loan made to a person or entity solely because the loan is affiliated with a cannabis-related business. Loans designed for leasing real estate and equipment to cannabis businesses are explicitly protected. The bill also prevents financial regulators from incentivizing banks not to offer services to accountholders solely because they are affiliated with a legitimate cannabis-related business.
New Federal Guidance Expected
If SAFE Banking passes, one should expect new federal guidelines for banks and other financial institutions about how to work lawfully with legal cannabis businesses. The bill directs the Secretary of the Treasury to ensure that new Financial Crimes Enforcement Network (FinCEN) guidance is consistent with the purpose and intent of the SAFE Banking Act.
The CLAIM Act was reintroduced in mid-March 2021 to coincide with the reintroduction of the SAFE Banking Act. It will “create a safe harbor for insurers engaging in the business of insurance in connection with a cannabis-related legitimate business, and for other purposes.” If passed, the CLAIM Act is expected to open the insurance market to more competition, provide greater capacity, assist with lower premiums and entice new markets for hard-to-place risks such as D&O coverage and other specialty policies. It also will likely reinvigorate an anemic cannabis reinsurance market. In addition, the legislation will ensure that ancillary businesses supporting the cannabis industry, such as landlords, security, technology vendors, design professionals, legal and accounting, may continue to offer products and services without fear of losing their insurance.
The CLAIM Act will:
- Prohibit penalizing or discouraging an insurer from providing coverage to a state-sanctioned and regulated cannabis business, or an associated business
- Prohibit the termination or limitation of an insurer’s policies solely because the insurer has engaged in the business of insurance in connection with a cannabis-related business
- Prohibit recommending, incentivizing or encouraging an insurer not to engage in the business of insurance in connection with a policyholder, or downgrade or cancel the insurance offered to a cannabis or cannabis-related business
- Prohibit the federal government from taking any adverse or corrective supervisory action on a policy issued to (1) an owner or operator of a cannabis-related business or (2) real estate or equipment that is leased to a cannabis-related business, solely because the owner or operator is engaged with a cannabis or cannabis-related business
- Protect employees of an insurer from any liability solely for engaging in the business of insurance with a cannabis or cannabis-related business.
New language in the legislation expands the definitions of “cannabis-related business” and “financial services.” The bill will protect any financial service relating to cannabis, including such services as retirement plans and exchange-traded funds, as well as real estate and ancillary services. Financial payments “made by any means” are protected, such as through credit cards and electronic funds transfers.
The CLAIM Act also includes a requirement that the Government Accountability Office (GAO) will study and issue a report on “barriers to marketplace entry, including in the licensing process, and the access to financial services for potential and existing minority-owned and women-owned cannabis-related legitimate businesses.”
Senator Bob Menendez (D-NJ), co-sponsor of the bill, believes the legislation is badly needed in his state: “The voters in New Jersey spoke loud and clear this November when they overwhelmingly approved of recreational marijuana use, the governor and state legislature have acted, and now it’s time for the federal government to take the shackles off of state-authorized cannabis businesses, allowing this burgeoning industry to thrive.” He added that the legislation “simply levels the playing field for legal cannabis businesses, allowing them to fully operate just as any other legal small business would by permitting insurance companies to provide coverage to these enterprises without risk of federal prosecution or other unintended consequences.”
Senator Rand Paul (R-KY), another co-sponsor, agrees: “The states are making their own decisions on these issues, and it’s time for the federal government to accept that,” he said.
Although the multibillion-dollar legal marijuana industry has thrived despite federal illegality, banking and insurance reform is badly needed to normalize the business operations of cannabis companies and to provide protections against the theft and violence attendant with a cash-heavy industry. It is easy to see how cannabis businesses will benefit from more competition among insurers through lower premiums, higher limits and more choice in specialty coverages. Although the benefits to the insurance industry are more nuanced, the reforms should result in reducing the frequency and severity of cannabis-related insurance claims and losses in ways both predicable and less obvious.
D&O and Other Management Liability
The SAFE Banking and CLAIM acts should have a meaningful impact, for example, on the factors that have prevented carriers from underwriting cannabis D&O and other management liability policies. Because traditional financing options are unavailable to cannabis companies, most have instead obtained capital through the use of private investment, foreign exchanges, an IPO or a reverse takeover of an existing public company, primarily in Canada to date. Given the quickly evolving dynamics of the cannabis industry, however, disclosure of risks to investors through private placement memoranda or other means can be a significant challenge. Cannabis operators are confronted with a regulatory minefield, and some even have been tempted to violate state regulations as they weigh strict compliance versus growth with only limited sources of new capital available.
These perceived omissions and outright regulatory violations have given rise to substantial management liability exposure that to date has been largely uninsured or underinsured. As the losses pile up and insurers retreat from the market, cannabis companies wishing to attract badly needed talent cannot locate the insurance coverage demanded by would-be directors and officers. This dynamic has led to a predictably vicious cycle of management errors, claims, losses, insurance premium hikes, policy renewal declinations and carriers exiting the market. The pending legislation, however, may serve as a “reset” button of sorts to allow the beginnings of a new virtuous cycle for this important insurance coverage.
Theft Losses, Crime and Fidelity Coverage
Theft of cash experienced by cannabis retailers, distributors and other operators has become one of the most common cannabis-related insurance claims. Depending on whether the theft is committed by a third party or an employee, these claims have triggered property, crime and fidelity coverages.
Business Disputes and Litigation
Cannabis business disputes that are predicated on cash payments and associated accounting errors have resulted in substantial litigation that could have been avoided with access to banking and other financial services.
The majority of cannabis product-related claims and lawsuits have been the result of contamination and label and testing failures. Banking and insurance reforms should help pave the way for important new players such as large food safety laboratories and established manufacturing professionals to enter the space and provide improved quality assurance with a corresponding reduction in product recalls, label suits and consumer class actions.
Captives and Risk Retention Groups
Several factors make the cannabis industry attractive for insurance captives and risk retention groups. It is a highly regulated industry where companies must silo their operations in an environment of limited and expensive insurance coverage. Up to now, few cannabis captives have been formed due to fundamental problems − states have refused to domicile cannabis captives, and there has been a lack of fronting carriers and reinsurance. All of these barriers largely have been lifted, with several states and offshore jurisdictions now domiciling cannabis captives, and an increased availability of fronting paper and reinsurance. The passage of the SAFE Banking and CLAIM acts should assuage any remaining concerns by regulators who are asked to approve cannabis captives and risk retention groups, and by cannabis companies looking at a potential offshore captive domicile.
The Bell Is About to Ring
The cannabis market is not slowing down in the United States or globally. Recent forecasts have U.S. sales reaching $41.3 billion within five years at a compound annual growth rate of 15 percent. To safely accommodate public demand, this industry needs stability with access to the full suite of risk management tools available to other market sectors. In the absence of broad federal legalization, partial normalization through banking and insurance protections is good for cannabis companies, their insurers and the millions of consumers who have embraced regulated cannabis products. Insurers should be ready to move when the bell rings!