The increasing relaxation of state laws regulating both the medical and recreational use of marijuana has led to a boom in marijuana-related businesses (“MRBs”). Because MRBs are not exempt from economic forces, however, courts are increasingly being confronted with bankruptcy filings by and against MRBs. To date, courts have uniformly held that bankruptcy relief is not available to an MRB because growing and selling marijuana is illegal under federal law — specifically, the Controlled Substances Act of 1970.[1] For this reason, the bankruptcy court in the Arm Ventures case recently held that a single asset real estate (“SARE”) debtor’s proposed plan, funded through income generated by leasing space to an MRB, could not be confirmed, and, while declining to dismiss the debtor’s case immediately, granted the secured lender’s motion for relief from the automatic stay.[2]
Background
After prolonged litigation and on the eve of Ocean Bank’s twice-postponed foreclosure sale of Arm Ventures’ commercial property (the “Property”), Arm Ventures filed a chapter 11 bankruptcy case. In response to the bank’s motion to dismiss the case as a “bad faith” filing under 11 U.S.C. §1122(b), the debtor filed a plan of reorganization that proposed to rent a portion of the Property to Modern Pharmacy, a business that would generate income from the sale of medical marijuana. Before the final hearing on the motion, the debtor filed an amended plan that continued to rely on income generated from the sale of medical marijuana, and at the court’s request, the parties filed supplemental briefs addressing the marijuana issues. At the hearing on the bank’s motion to dismiss, the debtor argued that it would be able to prove that its plan was feasible because Modern Pharmacy had applied for both state and federal approval to cultivate and sell medical marijuana.
The Arm Ventures Decision
The court began by observing that it need not consider whether the debtor’s plan was feasible because “the law is very clear — a bankruptcy plan that proposes to be funded through income generated by the sale of marijuana products cannot be confirmed unless the business generating the income is legal under both state and federal law,” which Modern Pharmacy’s business was not.[3]
As for feasibility, the court found the debtor’s plan to be so speculative that it could not be confirmed, explaining that in addition to not being approved by the State of Florida to cultivate or sell medical marijuana — the laws and regulations implementing the state’s 2016 constitutional amendment legalizing medical marijuana had not even been drafted — Modern Pharmacy was not one of the seven state-authorized dispensaries under an existing Florida statute allowing the use of medical marijuana to treat certain terminal illnesses. Modern Pharmacy was also “highly unlikely” to receive approval from the federal government to cultivate or sell medical marijuana.[4]
Despite calling the case ripe for dismissal for bad faith, the court said that it was unconvinced that dismissal was in the best interests of the debtor’s other creditors. Therefore, it denied the bank’s motion to dismiss, conditional on the debtor filing a plan within 14 days that did not depend on the sale of marijuana as a source of income. At the same time, however, due to the debtor’s bad faith in filing the chapter 11 case and its inability to propose a confirmable plan, the court granted the bank’s motion for relief from the automatic stay to continue its long-delayed foreclosure action, subject to a 75 day stay of the foreclosure sale in the event that the debtor timely filed a plan that did not depend on the sale of marijuana as a source of income.[5]
Observations
In the aftermath of the court’s decision, it quickly became clear that the debtor’s bankruptcy was nothing more than a classic — if extreme — example of a bad faith SARE filing to thwart a lender’s impending foreclosure sale.[6] Because of the debtor’s decision at the outset to propose a plan that relied on income generated by the sale of marijuana, however, the court was afforded a ready opportunity to join the numerous other courts that have held that bankruptcy relief is not available to a marijuana-related business.
Absent a change in federal law, it is unlikely that any other result will be reached in cases involving marijuana-related businesses in the foreseeable future. Nor are there signs that federal policy soon will change. Indeed, it remains the position of the United States Trustee program, the component of the United States Department of Justice that is charged with protecting the integrity of the federal bankruptcy system, that cases involving marijuana assets are proscribed under federal law and may not be administered under the Bankruptcy Code, and therefore it is the policy of the program that United States Trustees move to dismiss or object to plan confirmation in such cases.[7]
[1] 21 U.S.C. §801 et seq.
[2] In re Arm Ventures, LLC, 564 B.R. 77 (Bankr. S.D. Fla. 2017).
[3] Arm Ventures, 564 B.R. at 84. The statutory grounds for this principle are found in 11 U.S.C. §§1129(a)(3) and 1325(a)(3) (providing that plans under chapter 11 and chapter 13 of the Bankruptcy Code must be “proposed in good faith and not by any means forbidden by law”).
[4] Id. at 84-85.
[5] Id. at 86-87.
[6] While the debtor did timely file a plan that did not rely on income generated by the sale of marijuana, the bank, the Small Business Administration and the United States Trustee objected to the disclosure statement. In the face of those objections the debtor sought to delay the expedited disclosure statement hearing that it had requested. The Court, however, denied the debtor’s extension motion, entered an order dismissing the case for bad faith with a one-year in rem bar against re-filing and retained jurisdiction to award sanctions against the debtor and its counsel.
[7] Letter from Clifford J. White III, Director, Executive Office for United States Trustees, to Chapter 7 and Chapter 13 Trustees (Apr. 26, 2017), available at https://www.justice.gov/ust/consumer-information.