Refusing to dismiss the chapter 7 petition by an individual who owned corporations that sold marijuana at retail, Bankruptcy Judge Dennis Montali of San Francisco said that the U.S. Trustee Program “seems [to be] the only arm of the executive branch [of the federal government] with an explicit mission to enforce the [Controlled Substances Act] against state-regulated marijuana businesses.”

The U.S. Trustee, the chapter 7 trustee and a creditor filed motions asking Judge Montali to dismiss the chapter 7 petition filed by an individual debtor for “cause” under Section 707(a). They alleged that the estate assets were comprised of or derived from marijuana. The chapter 7 trustee contended that he would be subject to prosecution for violating the Controlled Substances Act, 21 U.S.C. Sections 801-904, were he to administer the assets.

Judge Montali said that the debtor owned 100% of an LLC that was a retail dispensary of marijuana and 40% of another retail dispensary. He said that the debtor’s schedules listed “no tangible assets . . . that bear any connection with marijuana plants, marijuana equipment or anything else covered by the CSA.” Assets of the sort, he said, were owned by the LLCs and were not estate property.

Evidently, the debtor was receiving post-petition income from the marijuana industry, but Judge Montali said that the “Debtor’s post-petition income does not bear upon the question of whether there is cause to dismiss Debtor’s chapter 7 bankruptcy,” because post-petition income is not estate property under Section 541(a)(6).

Judge Montali focused on the two LLCs, their businesses and their assets to determine whether there was cause for dismissal. He said,

[T]he CSA prohibit[s] direct acts or benefits as they relate to engaging in marijuana business. None of these prohibitions . . . include a direct prohibition on owning or disposing of an interest in an entity that engages in [a] marijuana business, or owning other intangible assets of such as domain names with catchy words conveying messages about marijuana.

Judge Montali added that “the Justice Department has for years taken both an implicit and explicit hands-off approach to enforcement of the CSA as it relates to state-regulated manufacture and distribution.” He said that “[t]here is a ‘stated reluctance in this Circuit to adopt per se bright-line rules requiring the immediate disposition of bankruptcy cases in which marijuana activity is present[.]’ Burton v. Maney (In re Burton), 610 B.R. 633 (B.A.P. 9th Cir. 2020).”

Saying that “Section 109(b) does not lock the bankruptcy court’s doors to exclude individuals in the marijuana business,” Judge Montali said that he “need[ed] to locate any causal connection linking the debtor to whatever dire outcomes the statute and the context either specifically or inferentially identify.”

Judge Montali said that most of the reported dismissals of marijuana cases were in chapters 11 or 13. The chapter 7 case before him presented “a different and difficult issue [as to] whether the bankruptcy court and the court-appointed bankruptcy trustee should play a role in the continued administration of income derived from a marijuana business.”

Judge Montali said that the “Debtor is separate from the entities that engage in the marijuana business, meaning the trustee is not in danger of having to administer the actual tangible marijuana assets held by those businesses.” Neither LLC, he said, “is in bankruptcy, nor are their tangible assets.”

Although “realizing profits from a marijuana business” would be prohibited by the CSA, Judge Montali found nothing to suggest “that monetizing an intangible ownership interest is the equivalent of profiting from a marijuana business.” He noted that corporate shareholders under California law neither own the corporate property nor the corporate earnings.

Judge Montali therefore held “that any potential sale of a membership interest in an LLC is just that — the sale of an ownership interest [and] is not necessarily the proceeds of a marijuana business.” Similarly, he saw no “reason . . . why the trustee would violate the CSA . . . were he to offer to sell, and actually sell, such intangible assets of the estate such as domain names.”

Were the chapter 7 trustee to remain skittish, Judge Monatli pointed to Section 554, which would allow the trustee to abandon estate property. The fact that an abandoned asset returns to the debtor “is of no legal significance.”

Finding “no clear basis to disqualify a debtor from the benefits of chapter 7 because of perceived but unanalyzed difficulties the chapter 7 trustee might face when administering the bankruptcy estate,” Judge Montali denied the motions to dismiss.