The risk of corruption in state cannabis licensing has once again been highlighted by recent reports that a federal grand jury has subpoenaed at least seven Massachusetts cities, including Boston, for information about contracts between cannabis firms and municipalities. The subpoenas apparently relate to “host community agreements,”  a contract between individual cannabis operators and their host community that is required by state law in Massachusetts.  Host community agreements, and similar arrangements in other states that have legalized cannabis, are well intentioned.  But like any arrangement that involves payment for permission to operate, they can be abused for corrupt ends.       

Host Community Agreements

Massachusetts law requires that, before being awarded a state license, every marijuana business execute a host community agreement (“HCA”), “setting forth the conditions to have a marijuana establishment or medical marijuana treatment center located within the host community which shall include, but not be limited to, all stipulations of responsibilities between the host community and the marijuana establishment or a medical marijuana treatment center.” The law also provides that the HCA “may include a community impact fee”  which must be “reasonably related to the costs imposed upon the municipality by the operation of the marijuana establishment or medical marijuana treatment center and shall not amount to more than 3 percent of the gross sales of the marijuana establishment or medical marijuana treatment center or be effective for longer than 5 years.”

Reports suggest that some towns have used HCAs to require significant charitable gifts or fees from licensees, beyond those contemplated by the statute. Northampton, for example, asked cannabis companies to contribute $10,000 annually to a nonprofit. And a member of the Cannabis Control Commission told The Boston Globe that they had recently heard from a firm “that was informed by one town official that only those agreeing to a $15,000 ‘donation’ would make the cut for a host community agreement.” In another instance, an attorney and lobbyist who represents several businesses in the state reported that their clients had been pressured to sign HCAs that require a 4 percent impact fee (more than the 3 percent contemplated in the statute), as well as up-front payments to the town. Excessive community impact fees can also be an obstacle to social equity businesses seeking to enter the industry, further limiting the potential applicant pool. 

Unfortunately, the statute does not provide the Commission with clear authority to review HCAs to ensure that they are reasonable and not being abused.  For example, in a recent report, the Commission acknowledged that the statute “does not currently prohibit municipalities from charging fees authorized under state law in addition to the 3% community impact fee,” and that “HCA terms vary widely across the state.”

Protecting against Corruption

In addition to serving as a barrier to entry, excessive community impact fees, charitable gifts, or other fees can also be used as a vehicle for paying bribes to individual government officials. Such concerns are likely part of the Massachusetts grand jury investigation.

Similar issues have arisen in connection with the Foreign Corrupt Practices Act (“FCPA”), which prohibits corrupt payments to foreign government officials in order to obtain a business advantage.  For example, in one well-known case, a company used donations to a castle restoration charity in Poland which was headed by a foreign government official in order to induce the official to direct business to the company.  Although the charity was a bona fide charitable organization, the evidence made clear that the payments were viewed as “dues” for assistance from the government official and the company eventually reached a settlement with the SEC arising out of these acts.

Because of this and similar cases, FCPA practitioners have now developed established best practices for mitigating the corruption risks arising out of charitable donations. These practices are set forth in detail in the joint guidance on the FCPA issued by the DOJ and SEC.  Collectively, these best practices focus on verifying that the donation will be used for an appropriate intended purpose, rather than as a mask for bribery to a particular government official.  Drawing on our FCPA experience, we believe that these principles can be adapted and applied to community impact fees and charitable contributions in the context of state cannabis licensing, and would recommend that companies encountering such requests (in addition to considering the risks of violating federal narcotics laws) also consider using the following mitigating measures to the extent practicable in order to reduce the risks of violating federal and state anti-corruption laws:          

(1) confirm that the amount requested is reasonable and does not contain a built-in surplus that can be used as a payment to an individual in order to influence the licensing process;

(2) obtain a clear explanation from the recipient entity (not the municipality or government official) as to how the funds will be used;

(3) conduct due diligence on the intended project to confirm that it serves a legitimate purpose and that there is no evidence of any improper connection between it and any state official;

(4) conduct end-use monitoring to verify that the donation is being used for the intended appropriate purpose; 

(5) obtain a certification from the recipient entity of compliance with state and federal anti-corruption laws;

(6) verify that the payment is being made into a legitimate bank account held by the recipient entity, rather than by an individual. 

Author

Tom Firestone is Co-Chair of the firm's North American Government Enforcement practice and is a member of the Firm's Global Compliance & Investigations Steering Committee. He represents clients in matters involving anti-corruption and the US Foreign Corrupt Practices Act (FCPA), internal investigations and transactional due diligence. He is also a member of the firm's Cannabis Review Committee and has advised clients on compliance issues related to cannabis.

Author

Tanya Hoke is the Managing Director of Galen Diligence, which has provided investigative due diligence services focused on the legal cannabis industry since 2015. She is a Certified Fraud Examiner, Certified Anti-Money Laundering Specialist, and a member of the National Cannabis Industry Association's Banking & Financial Services Committee.