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Establishing Foundation

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One of the provisions of the Michigan Regulation and Taxation of Marijuana Act (Section 8.1(j)) requires the State of Michigan to promulgate rules for “a plan to promote and encourage participation in the marihuana industry by people from communities that have been disproportionately impacted by cannabis prohibition and enforcement and to positively impact those communities.”

On July 18, the Michigan Department of Licensing and Regulatory Affairs (LARA), through its Marijuana Regulatory Agency (MRA), announced details of the Social Equity Program.

The MRA designated 19 Michigan communities which they determined have been disproportionately impacted by cannabis prohibition and enforcement: Albion, Benton Harbor, Detroit, East Lansing, Ecorse, Flint, Highland Park, Hamtramck, Inkster, Kalamazoo, Mount Morris, Mount Pleasant, Muskegon, Muskegon Heights, Niles, Pontiac, River Rouge, Saginaw and Ypsilanti. These communities were determined through the use of the amount of cannabis-related convictions in those communities, and the poverty rate. All the identified communities have at least 30 percent of the population living below the federal poverty level.

There are three possible fee reductions. Twenty-five percent for those who have been a resident of one of those 19 communities for at least the past five years, an additional 25 percent reduction if the majority owners have been a resident of one of those communities for at least five years and have a cannabis-related conviction, and an additional 10 percent reduction if the majority owners are residents of one of those communities for at least the past five years and were registered as primary caregivers for at least two years between 2008 and 2017.

In addition to the fee reductions, the state is making available personnel from several other agencies who offer services relevant to those who plan to participate in the adult-use cannabis industry. That assistance includes the Department of Treasury explaining tax and payment requirements, and environmental laws explained by the Department of Environment, Great Lakes and Energy, a description of pre-licensure inspections from the Bureau of Fire Services, employee wage and benefit requirements from the Wage & Hour Division of the Michigan Department of Labor, business registration options from the Corporations Bureau, information regarding safe use and compliance from the Department of Health and Human Services, and safety and health education training from the Michigan Occupational Safety and Health Administration.

“All 19 designated communities are slated to host at least one educational session, with representatives from the state available to assist individuals with completing the social equity application.”

The MRA also will be providing education and mentorship including consultations with accountants and attorneys for those who are just seeking to enter the adult-use market.

All 19 designated communities are slated to host at least one educational session, with representatives from the state available to assist individuals with completing the social equity application.

To date, none of the identified communities have opted-in with a local ordinance allowing the licensing of adult-use cannabis businesses. Individuals meeting the qualifications can establish businesses in any of the listed communities to be eligible for the discounts. They do not have to open a business in the community where they live, but in order to be eligible for the discount, the business must be located in one of those communities.

The fees for the adult-use licenses are much lower than the fees for medical cannabis facilities licenses, but except for the 100 plant cultivation license and 150 plant microbusiness license, all licensees first must obtain a medical cannabis facility license before applying for an adult use license until the end of 2021.

The licenses for adult use cost between $3,000 and $50,000 per year, depending on the license (see Emergency Rule 10), and renewal fees will be adjusted for the bottom, middle and top producers as determined by the gross weight transferred by the licensee.

If any criticism of this program can be made, it likely would be based on the fact that mere residence in one of the designated communities for five years or more makes a person eligible for a 25 percent discount on fees for a facility in any of those communities. Regardless, those places do need jobs and other opportunities which in the past, have seemed to pass them by. It will be interesting to watch how this program plays out, and whether the design is an effective one in accomplishing the objective of benefitting those people who have been disproportionally impacted by cannabis prohibition.

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Embracing Change

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It seems like there isn’t a month that goes by in California when the Assembly isn’t trying to pass a slew of cannabis bills to help regulate the state’s industry under the Medicinal and Adult-Use Cannabis Regulation and Safety Act (MAUCRSA). As of Oct. 13, California has some new cannabis laws on the books (thanks to Gov. Gavin Newsom). This article is dedicated to the highlights of some of those laws and how they’ll affect cannabis businesses in 2020 and beyond.

 

State Tax Deductions

There’s no real gold standard for state cannabis taxation. And at the federal level, cannabis businesses suffer constantly under the heavy weight of I.R.C. 280E. However, Assembly Bill 37 will provide at least some tax relief to California cannabis businesses (from 2020-2024). AB-37 is a departure from California’s otherwise standard mandate that income taxation be treated the same as on the federal level, which, for cannabis businesses, formerly meant no state deductions for business expenses related to trafficking in cannabis because of I.R.C. 280E. Now though, California cannabis business owners licensed under MAUCRSA will be able to lawfully take ordinary personal, business deductions under California law.

 

Charitable Donations

Senate Bill 34 creates better breaks for low-income medical patients that have a physician’s recommendation but that may not have an ID card from the Department of Public Health pursuant to the 2004 Medical Marijuana Program Act. Via tax-free “compassionate care donations” by licensed retailers and/or retailer microbusinesses, before providing any medical cannabis to any qualified patient or their caregiver, those licensees have to ensure that all of the necessary criteria is met. This includes rules regarding caregivers, physician’s recommendations and much more.

Testing

Assembly Bill 404 represents a much-needed, practical change to current cannabis testing laws. If a cannabis batch sample failed testing, a cannabis company only had two choices: Remediate or destroy the batch. Now, with the passage of AB-404, a testing laboratory is authorized to amend a certificate of analysis “to correct minor errors, as defined by the Bureau of Cannabis Control.” In addition, labs can now retest a failed batch sample “if the test result falls outside the specifications authorized by law or regulation, when the testing laboratory notifies the bureau, in writing, that the test was compromised due to equipment malfunction, staff error, or other circumstances allowed by the bureau and the bureau authorizes the retest.”

 

Social Equity Support

California has made great strides in supporting local social equity programs. The California Cannabis Equity Act of 2018 authorizes the Bureau of Cannabis Control, upon request by a local jurisdiction, to provide technical assistance to a local equity program that helps local equity applicants or local equity licensees. With the passage of Senate Bill 595, “on or before Jan. 1, 2021, [the state licensing agencies will have] to develop and implement a program to provide a deferral or waiver for an application fee, a licensing fee, or a renewal fee for a needs-based applicant or needs-based licensee.” At least 60 percent of the total dollar amount of deferrals of fees pursuant to this new program will be allocated to the deferral of fees for local equity applicants and licensees, and SB-595 also requires at least 60 percent of the total dollar amount of waivers of fees to be allocated to the waiver of fees for local equity applicants and licensees.

 

Research

Assembly Bill 420 expands existing University of California (UC) research mandates with the authorization of the California Cannabis Research Program, hosted by the existing Center for Medicinal Cannabis Research at UC San Diego. The program will allow researchers to be able to conduct studies regarding the efficacy of cannabis and provide medical guidelines based on their findings. Where the center has had issues with acquiring enough cannabis for its research purposes, AB-420 allows the center, via the program, “to cultivate cannabis for its use in research, pursuant to applicable federal and state laws and regulations.”

 

Vape Cartridges and Pens

Assembly Bill 1259 took effect immediately, and it will change up the packaging/labeling requirements for vape cartridges and pen makers by making life a little bit easier. Specifically, a cannabis cartridge or an integrated cannabis vaporizer that contains cannabis or a cannabis product “shall bear the universal symbol . . . [t]he universal symbol shall be visible on the cannabis cartridge or integrated cannabis vaporizer and shall not be smaller than one-quarter inch wide by one-quarter inch high. The universal symbol shall be engraved, affixed with a sticker, or printed in black or white.”

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Detriments of Distribution

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Since January 2018, distributors have played an interesting role in California’s cannabis industry. From a regulation perspective, dealing with a distributor is not optional. However, from the business decision vantage point, they’re not all that necessary. Still, some manufacturing and cultivation licensees opt to utilize distributors for sales and retail relationships with the distributor attempting to act like a brand house (more akin to the liquor model). Whether you have a short- or long-term supply and distribution agreement with a distribution licensees your basic key terms have to be covered in order to avoid disaster on production and sales. If you’re contemplating entering into a more traditional distribution relationship, here are some of the red flag issues.

“From a regulation perspective, dealing with a distributor is not optional. However, from the business decision vantage point, they’re not all that necessary.”

Exclusivity

Bad distribution agreements will obfuscate whether the relationship is exclusive or non-exclusive and especially in regard to certain or various product lines. This is a huge mistake really for both sides, and especially if a distributor is obligated to buy up “all of the product produced by a wholesaler.” One great example is if the wholesaler creates a new product line that isn’t mentioned specifically in the distribution agreement. Without being super specific on exclusivity, disputes are bound to occur.

Relationship with Retail

The relationship with retailers is probably the most valuable asset coming out of the distribution agreement. Routinely, distributors will bar wholesalers from making contact with or selling direct to retailers that are sourced through the distribution agreement. It’s incredibly important then in the agreement (especially in California where distributors don’t have to buy products from wholesalers if wholesalers want to be on retail shelves) to define what retail relationships are included as “off limits” in the contract.

Sales, Marketing, Advertising, Sales Data and Information Rights

Wholesalers can still afford to be picky with distributors in California. As a result, as a wholesaler, if you have specific conditions around the sales of your product (e.g. price, placement, prominence, store selection), you need to negotiate these with the distributor and not necessarily let the distributor take the helm. In addition, wholesalers should not be hesitant to put the onus on distributors to participate in the marketing and advertising of their products (especially in an exclusive relationship) or to at least force the distributor to assist the wholesaler with its marketing and advertising efforts.

Payment Terms

Getting paid from licensee to licensee in California can be a massive challenge, because it’s expensive to run a licensed cannabis business, and margins are typically not great at any volume. A solid distribution agreement will have a very clear payment schedule (and even protocol for disputes specifically related to getting paid). And there’s a big difference between getting paid when the distributor picks up the product versus getting paid when the product actually sells at the retail level. What’s worse is that some distributors may extend credit to retailers, thereby delaying the ultimate pay date for the wholesaler, and if that’s the case the wholesaler should expect to wait a long time to get paid out.

Termination and Effect

This is often one of the biggest areas of problems in these agreements. Sometimes the distributor has a unilateral, “without cause” right to terminate with however many days’ notice to the wholesaler. If you’re a wholesaler, this makes you a sitting duck in that a line of sales could vanish with limited notice, and you’d be powerless to stop it. Plus, the impact unilateral termination can have on existing orders (if not properly determined) can be devastating to a wholesaler that may have changed its entire business and labor force to accommodate the distribution relationship. When the relationship is over, the question will stand as to whether the wholesaler can still pursue relationship with those retail entities, and if there’s a non-circumvent that’s instituted by the distributor for a matter of years, the wholesaler is out of luck.

Product Reps and Warranties

Usually, a distributor isn’t going to have robust product representation and warranties. However, in California, where a distributor can store products, has to have them tested, and can package, label, repackage and relabel flower products, there’s a lot of product handling and interaction going on at a distribution facility. In turn, wholesalers should seek to get at least some reps and warranties around product fitness when in the hands of the distributor (depending on what the distributor will actually do with the product), and indemnification for the same.

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Pertinent Preparation

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Jars of cannabis at a provisioning center.

On Oct. 3, Michigan’s Marijuana Regulatory Agency (MRA) issued a copy of the application forms and instruction booklet for Adult-Use Establishment Licensing to the public. The application booklet is 106 pages long and goes into detail about the application requirements. In addition to the familiar cultivation, processing, retail, testing and transport licenses, there are additional licenses which are be available. In order to apply for an adult-use facility license, the person or entity first needs to hold a Medical Marihuana Facilities Licensing Act license, with a few exceptions. The exceptions are:

1.) 100-Plant Grow License (to wholesale product to licensed processors or retailers) – An entity is allowed to hold five of these licenses, but not at the same location.
2.) 150-Plant Micro Business License (where the entity grows, can process, and sells the product at the same location). The microbusinesses also will be able to sell at temporary events (see below). This requires compliance with all the requirements applicable to growing, processing and retail licenses. – An entity is allowed to hold only one of these licenses, and may not hold any other license, except for Temporary Events.
3.) Event Organizer – Allows the organizer to host temporary events up to seven days long where sale and/or consumption is allowed (a Temporary Event License is required also).
4.) Temporary Event License – Requires a diagram of the physical layout of the event, a security plan, responsible operations plan, product and waste management plan, marketing plan, list of participating cannabis vendors and employees and insurance. Event applications must be filed at least 90 days before the event. Any product must be moved by secure transporter if the quantity transported at one time exceeds 15 ounces. Such an event may only be held at a venue expressly approved by a municipality for the purpose of holding a temporary event.
5.) Designated Consumption Establishment License – Also requires a responsible operations plan, which shall include a detailed explanation of how employees will monitor and prevent over-intoxication, underage access, illegal sale or distribution and any other criminal activity on the premises. In addition, an applicant is required to attest that the applicant has entered into a labor peace agreement and provide a copy. None of the other licenses require a labor peace agreement, and there is no rule on point, but the forms require it.

All of the licenses (except for Temporary Events) require prequalification approval from the MRA. The Event Organizer License requires prequalification. That process currently takes several months on average, and so persons considering applying are urged to begin the application process as soon as possible (applications began to be accepted on Nov. 1).

Requirements for any cannabis establishment include a copy of the deed or lease to the property, a diagram of the establishment with floor plan, construction details, structure and building type, zoning, security and any occupancy restrictions and plans regarding technology, marketing, inventory and recordkeeping, staffing plan, certificate of use, occupancy and
proof of insurance or bond.

While the requirements for prequalification for medical and recreational licenses are similar, there are no capitalization requirements for the recreational licenses, and those require only one year of tax returns to be submitted, where the prequalification process for medical cannabis facilities licenses require three years of tax returns.

Existing medical cannabis facilities will likely have a quick and smooth transition to be allowed to sell to the adult-use market, and we can expect that licensed medical Provisioning Centers will be able to transition to licensed Adult-Use Retail Stores before the end of the year.

The only license that can be obtained without a location is the Event Organizer License, but any licensed event will need to be approved for a specific date and location. The municipality where the event is to be held must review and approve of the event. Some municipalities already have ordinances that allow various types of temporary events, which could include cannabis events. Other municipalities will need to pass an ordinance to approve such events in order for them to be licensed.

All of the forms and the application booklet are available on the MRA website, including inspection guides for each type of license.

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