The California Receivers Forum LA/OC Chapter’s July luncheon program focused on the challenges posed by medical marijuana. In both equity receiverships and rents-and-profits receiverships, the first order of business is determining whether the operating entity and/or tenant(s) are in compliance with state and local laws. A compliance checklist was provided in the program materials and is available on request. (See the box at the end of this article.)

Cultivation, storage, distribution and use of marijuana are all illegal under federal law. Jeremy Matz, former Assistant U.S. Attorney, speaking for himself alone, suggested that it is unlikely that “the feds” would prosecute a court-appointed receiver, even though federal law takes precedence over state law, because federal enforcement actions are focused on high volume, for-profit enterprises.

A receiver proposed for appointment in an equity receivership with a medical marijuana enterprise should ensure that the proposed order explicitly spells out the receiver’s duties as an agent of the Court in taking possession of and operating a medical marijuana business. David Pasternak’s order in Dehdashty vs. Gourmet Green Room, included in the program materials, is an example.

To be in compliance with state law, the operating entity must be either a cooperative or a collective; it cannot be a corporation, partnership, LLC, etc. It is imperative to maintain detailed records of all income and expenses, because prosecutors look for evidence of profit-taking by principals, members, employees, and vendors. The cooperative/collective itself should cultivate all marijuana sold to members, because it is unlikely that the receiver will be able to obtain detailed records of the cost of cultivation from a vendor.

Rents-and-profits receivers have diverse tightropes to walk. In addition to braving the buffeting winds of conflicting laws, the rents-and-profits receiver often must balance the competing demands of landlord vs. tenant, and tenant vs. tenant.

In a commercial property, whether or not a dispensary or grower is in compliance with state and local laws, terminating the tenancy by negotiation or eviction may be advisable, depending on the circumstances. Although cooperatives/ collectives typically pay rents that are multiples of current market rents, the presence of marijuana operations may be damaging to the market value of the property as a whole. The nature of the plaintiff, a federally chartered financial institution, for example, may ordain that federal law considerations are paramount, even if the tenant is in compliance with state and local laws.

The language in leases can cut both ways in commercial properties. Medical marijuana tenants, who expend substantial sums on tenant improvements and who pay very, very high rents, usually demand leases that specify that medical marijuana uses are permitted uses. Landlords who agree to those terms are pleased to accept above-market rents until they receive a get-rid-of-your-marijuana-tenant-or-else letter from the U.S. Attorney or local prosecutor. (Two examples of Department of Justice letters are in the program materials.) If the tenant refuses to vacate, and the landlord tries to evict on the basis of unlawful uses, recent case law suggests that the landlord will be unsuccessful — “You knew medical marijuana uses were unlawful when you signed the lease….” — leaving the landlord facing possible prosecution and forfeiture.

In a residential property, the receiver’s decision tree is even more complex. If a tenant has a medical marijuana recommendation or approval (there is no such animal as a prescription for medical marijuana) and is otherwise in compliance with state and local laws, the receiver has limited options. In federally subsidized housing, HUD has a policy of zero tolerance of drugs, but enforcement of the policy, especially for “legitimate” patients, is problematic.

Residential tenants who smoke or grow marijuana, strictly for their personal use and with a recommendation, can pose particular problems in non-subsidized properties. Neighbors with children or elderly relatives at home, or neighbors with competing disabilities, may protest vociferously, yet despite official complaints, it is difficult to engage the cooperation of police or sheriffs without evidence of sales or distribution (partying) or use by minors. In these situations, negotiation is always the first choice, in preference to rolling the dice with an unlawful detainer action.

When renting to new residential tenants, receivers should ensure that rental agreements have the strongest possible “no smoking” and “no disruptive or unlawful activities” clauses. Even with such language, and especially in the absence of such language in old agreements, an unlawful detainer action may not be successful without considerable evidence of harm to others.

Special thanks to the outstanding panelists, Aaron C. Lachant, Fenton Nelson, LLP; Jeremy D. Matz, Bird, Marella, Boxer, Wolpert, Nessim, Drooks & Lincenberg, P.C.; Steven K. Lubell, Law Offices of Steven K. Lubell; Liz McDuffie, Medical Cannabis Caregivers Institute; Anthony J. Napolitano, Buchalter Nemer, P.C.

*Nancy L. Martin is President of Resolution Equity Partners, Inc. Her practice includes real estate, investment consulting, and fiduciary services, specializing in receiverships and asset administration. The firm provides services to financial institutions, servicers, investment funds, attorneys, accountants, private parties and government agencies.