Tips to Comply with California Cannabis Law
After your business is set up, legal needs may persist
on August 28, 2019
Updated on January 12, 2023
“We’re in a nice honeymoon period right now, where errors and mistakes are looked upon as such, and enforcement is more focused on education and corrective action,” says Kimberly R. Simms, a San Diego cannabis law attorney. “But I think the honeymoon is nearly over.”
Simms has advised cannabis businesses in California since 2009, and does so in all different stages of the business life cycle—from startup to mergers and acquisitions. One piece of advice, however, applies to every situation: “Being proactive is critical.”
Another aspect that applies to cannabis businesses across the spectrum is regulatory compliance with state law and federal law. That’s why Simms says it’s essential to find an advisor who is experienced in cannabis.
“I couldn’t stress the importance enough. There are so many nuances, regulations, and things that get misconstrued. Unless you’re immersed in the cannabis industry, you’re not going to know,” she says.
Here are a few regulatory items Simms’ business clients don’t always know about.
Mergers and Acquisitions
California’s industry is still relatively young, but market consolidation is inevitable, and Simms says she’s already seeing some mergers and acquisitions. But not many know that a state license is not automatically transferable from one cannabis products entity to another as part of a sale.
“The way we structure the deals has to be compliant with the agencies’ regulations. That typically means there must be phases in which a purchase must take place,” Simms says of The Bureau of Cannabis Control, Manufactured Cannabis Safety Branch, and CalCannabis. “They each have their own set of regulations, and those regulations on the same issue or topic can differ. So you don’t want the documents to be signed and money to change hands, only for the buyer to find out they were sold something they either can’t use at all—or, not in the timeline they thought they could.”
Hemp and CBD
In addition to the three entities mentioned above, hemp and CBD potentially introduce even more regulatory points of view.
“All CBD is not created equal. If you’re interested in creating a CBD product, you need to pause before you sink money into the marketing and development. The federal government has a lot of opinions; county health departments have a lot of opinions; the FDA has a lot of opinions. So those deals need to be navigated much more carefully,” says Simms.
“Hemp is an area that is ever-changing, and there’s a lot of grey area right now. There are very big differences between marijuana and hemp, with CBD being the hot topic right now. Its source can completely change the set of rules.”
Investing in a Cannabis Enterprise
Whether it’s for an existing business or a new startup opportunity, investors need to be aware that their involvement may not be a secret.
“Something folks are often surprised about is how expansive the definitions of owners and financial interest holders are in California, and who needs to be disclosed,” Simms says. “There are different disclosures that have to be made to state agencies, depending on your role. If you come from the private sector, you know the idea of a silent investor as perfectly permissible. But in the cannabis space, that really doesn’t exist. If your money is going into the business, it’s going to be disclosed.”
Simms says there are some creative ways to structure a business and its contracts that may change disclosure issues. For example, an investor who doesn’t want to appear involved with the plant-touching parts of the business (e.g. growers) could financially participate in other aspects that remove some of the risk and maintain some of the reward.
Banking and Taxes
The reason for much of the risks associated with cannabis, of course, is that it is a federally banned substance in the Controlled Substances Act. As a result, “The cannabis industry, by and large, doesn’t have access to traditional banking,” Simms says, “and there are some funky tax nuances we have to deal with—in particular, IRS Tax Code 280E, which prohibits standard ordinary business deductions—because you’re trafficking in a controlled substance.”
Negotiating Agreements, Deals, and Contracts
Once a business is up and running, a legal counsel’s job is mainly to vet and negotiate the various deals that come along, such as joint venture agreements, supply chain agreements, and contracts.
“You didn’t see much of these when I started back in 2009,” where deals were sometimes done on trust and handshakes, Simms says, “but now they’re very common and they’re much better for the industry as a whole.”
This is also a good time to examine—or draft—things such as employee handbooks and internal compliance programs for training employees, all of which a reputable attorney can assist with.