Pubdate: Sun, 08 Feb 2015
Source: New York Times (NY)
Copyright: 2015 The New York Times Company
Author: Matt Richtel


Marijuana Industry in Colorado, Eager for Its Own Bank, Waits on the Fed

It was zero degrees in Denver on a late December morning, and the 
ice-covered streets were mostly empty. Mark Mason, wearing a 
full-length black coat, green wool hat and sunglasses, sat in a white 
Buick LaCrosse, eyeing the squat building across the street. It was 
the local branch of the Federal Reserve Bank.

"Behind that gate, that's where the armored cars come in," he said, 
pointing to a parking lot. "They've got a bunch of money in the 
basement - a bunch."

For some months, Mr. Mason, 54, has been thinking about the bank and 
how, he said, "to break in." Not to take money, but to leave it. Mr. 
Mason and a group of other entrepreneurs in Colorado want to start 
the first-ever financial institution established specifically to 
serve the pot industry. To do that, they need to make deposits in a 
Federal Reserve account, and the agency hasn't let them. Such humdrum 
administrative decisions are made all the time by federal banking 
officials, but this one raises big political and legal issues between 
the federal government and the state of Colorado over the 
legalization of marijuana.

Mr. Mason and his business partners have already received a license 
from the state of Colorado for their Fourth Corner Credit Union. They 
have leased a building in downtown Denver, put up a Facebook page and 
generated predictable jokes on late-night TV. Jimmy Fallon: "If you 
think the line is slow at your bank ..."

Medical marijuana has been legal in Colorado since 2001, and 
recreational marijuana use became legal a year ago. But marijuana 
businesses have had limited, if any, access to banking services. The 
federal government considers marijuana illegal and so traditional 
banks, fearing prosecution for aiding and abetting illegal drug 
dealers, have shut down pot-business accounts and declined to give 
loans. Some banks have ferreted out pot entrepreneurs by sniffing 
their bills, leading to a countermove: bills sprayed with air freshener.

Without a bank account, pot businesses deal in cash, lots of it, held 
in safes, handed out in clipped bundles on payday, carried in brown 
paper bags and cardboard boxes to the tax office and the utility 
company, ferried around the state by armored vehicles and armed 
guards. And without access to essential banking services - from 
credit cards to electronic transfers to loans - those businesses pay 
a huge premium. The reality in Colorado is that it is legal to grow 
pot but extremely hard to grow a pot business.

The Fourth Corner partners saw a need and a business opportunity. 
State accreditation in hand, the partners took a step this November 
that typically goes off without a hitch: they applied to the Federal 
Reserve Bank for a "master account." This is the account they would 
use to deposit funds and transfer them electronically with other 
banks - the lifeblood of commerce.

Mr. Mason could not find a case of a state accredited financial 
institution being denied a master account. Usually, approval comes in 
days, he noted. But it has been nearly three months since the 
application was filed and there has been no answer, just a letter in 
early January saying the request was under review. Mr. Mason said the 
application was on the desk of a specialist in bank risk, a guy named 
Ryan Harwell in Kansas City, Mo., the Fed's Midwest regional office 
that oversees the Denver branch.

While the Federal Reserve declined to comment - as a matter of 
policy, its officials don't comment on pending applications - Mr. 
Mason suggested a reason the Fed may be wary of granting the account.

"This legitimizes the marijuana industry to the extent it's never 
been legitimized before," he said. If Fourth Corner gets approval, 
businesses would have a place to deposit and to borrow. Other 
institutions might well follow, and the federal government "would 
become complicit, and the walls start tumbling down."

At the same time, Mr. Mason argued that the Federal Reserve Bank was 
not only within its rights to approve the credit union but was 
obliged to do so. Continue reading the main story

Peter Conti-Brown, a banking expert at the Stanford Law School, 
agreed that the credit union application set up a quandary, one that, 
as policy questions go, is "delicious" and "awesome." Yes, in theory, 
he said, the Fed could approve this credit union. But the 
implications are unclear, and potentially staggering, he said, given 
that this pen stroke by Mr. Harwell could let the cannabis industry 
blossom. And then what happens to the federal government's power over pot?

"I can almost see his green shaded visor and glasses," said Mr. 
Conti-Brown, imagining Mr. Harwell in Kansas City. "All of a sudden 
on the desk of this midlevel bureaucrat comes an extraordinary 
question of federal policy and constitutional law."

A Crack in the Door?

The possible future home of the Fourth Corner Credit Union is seven 
blocks from the Federal Reserve's Denver branch in a ranch style, 
2,100-square-foot building that once housed an office of the Colorado 
Business Bank. It has four teller windows, one of them drive-through, 
a convenient side alley for armored cars to pick up the cash to take 
it to the Fed, and a collection of neighbors that, as Mr. Mason likes 
to say, represents "the whole universe" - the United States Mint, the 
state courthouse and the Diamond Cabaret strip club.

Mr. Mason only recently moved to Denver. He rents a condo with his 
wife downtown, but his permanent home is in Charleston, S.C., where 
he practices law. He grew interested in the whole bank-for-pot idea 
after getting a call from his son, Alex. A recent college graduate 
with a degree in criminal justice, the younger Mr. Mason was living 
in Denver and told his father that friends in the marijuana industry 
were struggling to find banks to take their money. Mr. Mason stayed 
up all night, inspired, writing a 20-page position paper on banking 
law, and then started making local contacts, first with high-powered 
Denver lawyers. He said he was captivated by the "opportunity to work 
on one of the great political, social and constitutional issues of 
the day," one that made his day job "pale by comparison."

On the same freezing day that he cased the Fed, Mr. Mason gave a tour 
of the credit union to one of the credit union's founding board 
members, Kristi Kelly, owner of Good Meds, which grows and sells 
medical marijuana. Since 2009, Ms. Kelly has had 23 bank accounts 
canceled. Continue reading the main story

Now Ms. Kelly relies on what she calls the "Bank of Kristi" - the 
proceeds of Good Meds are kept in a safe and delivered to the tax 
man, employees, lenders, trade associations and utilities in whatever 
is discreet and handy, paper bags included.

Touring the credit union, she seemed gleeful. "This is great!" she 
gushed. "I can't believe how perfect this is." She paused, looking 
over at an imposing safe with two dial locks on the front. "Is that a 
bulletproof lock safe? I've written about that in state applications, 
but I've never seen it!"

Mr. Mason and a lawyer named Martin Kenney, who specializes in fraud 
law, have put $600,000 into the management company that organized the 
credit union, Mr. Mason said. They have recruited nine credit union 
board members including a local urology surgeon and a Denver city 
councilman. A local lawyer, Douglas Friednash, who provided the group 
legal counsel, on Feb. 2 took the post of chief of staff to Gov. John 

There are 1,200 licensed marijuana businesses in the state, and the 
credit union expects to get a "significant share," but it cannot sign 
anyone up until it opens its doors. Its chief obstacle is not 
financial, but legal. The Controlled Substances Act defines marijuana 
as a Schedule 1 drug, along with the likes of heroin. It says that 
these drugs, so easily carried across state lines, can only be 
controlled through federal oversight. But in 2012, Colorado voters 
legalized the sale of recreational marijuana by state-licensed 
businesses, and the state Constitution was amended at the beginning 
of 2014. Twenty-two other states and the District of Columbia allow 
some form of legal marijuana. So does federal or state law prevail?

In a 2005 California case, the Supreme Court sided with the federal 
government. Makers and users of medical marijuana had sought an 
injunction to prevent federal law enforcement from interfering with 
their California trade. But the court ruled that federal law 
prevailed because the business of marijuana in one state could impact 
supply and demand across state lines.

To banks, the pre-eminence of federal law has been a powerful 
deterrent to allowing pot businesses to set up accounts. In fact, Don 
Childears, chief executive of the Colorado Bankers Association, said 
his reading of the federal law was that "the very receipt of a 
deposit is the definition of money laundering." His train of logic: 
Marijuana is illegal at the federal level; banks that take money from 
illegal drug operations are guilty of money laundering; therefore, 
the banks that take pot money face serious criminal and civil liability.

On Feb. 14, 2014, the Justice Department and the Treasury introduced 
a wrinkle. They each sent out guidelines that seemed to crack open 
the door for banks to engage with marijuana businesses. The Justice 
guidelines, known as the "Cole Memo," didn't foreclose the 
possibility that banks taking marijuana money could be prosecuted for 
financial crimes, but directed prosecutors to go after significant 
cases, which it defined using eight priorities. For example, a bank 
that provided services to a marijuana business that distributed to 
minors or sold in states where the drug was illegal or used gun 
violence might be subject to prosecution, but when such aggravating 
factors were absent, prosecution "may not be appropriate," the 
guidelines said. Continue reading the main story

Under the Treasury guidelines, banks are urged to file "suspicious 
activity reports" when a new pot business opens or closes an account 
or when such businesses exhibit activities that violate the Cole 
guidelines. Treasury characterized the efforts in part as a way to 
get money into the banking system, where it - and its actors - could 
be more easily tracked. In sum, the guidance was advertised by many 
as a "green light" to banks.

Mr. Childears of the Colorado Bankers Association doesn't see it that 
way. "They were a yellow light at best," he said of the guidelines. 
In fact, he argued, "They raised the liability for the banks." The 
costs of filing suspicious activity reports, he said, are 
considerable and raise all kinds of questions. For example, he asked, 
what if such a report actually becomes an admission that the bank is 
participating in an illegal enterprise?

Plus, Mr. Childears said, the guidelines are not law. In other words, 
they don't preclude a federal prosecutor or state attorney general 
from going after a bank. In fact, two state attorneys general, from 
Nebraska and Oklahoma, sued the state of Colorado in December, asking 
that the Colorado law that legalized pot be struck down because it 
violates federal law and "creates a dangerous gap in the federal drug 
control program."

Most banks are wary of stepping into this mire, Mr. Childears said, 
estimating that perhaps 5 percent of Colorado's marijuana businesses 
use a financial institution (others put the figure higher, but still 
below half the pot business in the state).

Enter the credit union, which state officials see as critical, partly 
to solve crime and safety risks they see created by all-cash 
businesses. "It is the first very public marker that this is a place 
to be banked," said Andrew Freedman, director of marijuana 
coordination for Colorado. The credit union, he predicted, will see a 
surge of business "in a quick amount of time."

What happens with its application goes to the very fate of the new 
marijuana industry, argued Chris Myklebust, commissioner of 
Colorado's division of financial services. If the feds don't grant 
the application and really open up banking, Mr. Myklebust said, they 
create a life-threatening chokehold on the businesses, cutting off 
their ability to profit and survive.

"Without banking," he said, "the industry is not sustainable in the long run."

The Cost of Not Banking

Dylan Donaldson, 30, knows the hidden costs of a bank-challenged 
business. He has nine 1,000-pound safes bolted to the floor in the 
back of Karing Kind, his dispensary North Boulder. At any given time, 
they hold $80,000 to $100,000 in cash.

The safes didn't help, though, when thieves busted through the wall 
of an adjoining business one June night and took $250,000 in marijuana plants.

Now he pays $100,000 a year for armed guards provided by Iron 
Protection Group, a business owned and operated by vets from Iraq and 
Afghanistan, who watch the place at night. They also deliver money to 
the tax office and vendors, from makers of THC concentrate to 
suppliers of computer paper. At present, the business has no bank 
account, having lost more than a dozen, Mr. Donaldson said.

Another big cost for Mr. Donaldson: loans. He wanted to buy the land 
beneath his dispensary, but couldn't get a bank loan. The best he 
could do was a 17 percent interest-only loan from four local businessmen.

And then there's his father, who owns the building, and leases it to 
his son for above-market rates. The younger Mr. Donaldson said this 
was frustrating but fair, given that the nature of the enterprise 
requires his dad to take on risk.

These are not the only ways that the clash between the federal 
government and the state costs marijuana businesses. For instance, 
federal tax rules prevent cannabis businesses from writing off 
expenses under a law meant to keep illegal drug cartels from 
exploiting tax advantages. Mr. Donaldson estimates that the taxes and 
other expenses mean he pays 30 percent to 35 percent more in costs 
than a non-pot business of the same size.

On Dec. 31, Mr. Donaldson watched a steady stream of customers pour 
in to stock up for New Year's Eve - bud for smoking, THC baked into 
candy bars, stirred into drinks, frozen into ice cream. But rising 
competition and the extra costs mean profits don't come easily. 
"December was our worst month all year," he said.

At the same time, he is skeptical a credit union is the solution. 
Maybe he'd put a little money into it, he said, but what if the 
credit union fails or gets hit by the feds, its own doors kicked 
down? He would be worse off. Besides, he said: "I think it'll be 
challenging for them to get approved."

A week later, on Jan. 7, the credit union organizers got a letter 
from Esther George, president of the Federal Reserve Bank of Kansas 
City. The letter stated that issuance of a master account was "within 
the Reserve Bank's discretion" and required the Fed to identify the 
risks "posed by such a financial institution." The potential risks 
she referred to might explain how the application wound up on the 
desk of Mr. Harwell, who is a risk specialist.

Earlier, Mr. Mason had sat in on several conference calls with Mr. 
Harwell and said the risk specialist asserted the decision was "above 
my pay grade," but declined to specify in whose pay grade it was. 
(Mr. Harwell did not return emails, and a spokesman declined to 
comment about the application.)

There is also the issue of deposit insurance, which a financial 
institution needs in order to operate. The Fourth Corner Credit Union 
has applied to the National Credit Union Administration, a federal 
regulator that provides insurance for most of the nation's 2,500 or 
so state-chartered credit unions. If it isn't approved, the fledgling 
credit union plans to apply for private insurance with Lloyd's of London.

As for the Federal Reserve, Mr. Conti-Brown of Stanford said the 
granting of a master account by the Federal Reserve had usually been 
routine. "It's been so prosaic," he said.

On one level, this application is no less routine. But there is 
another level on which the granting of a master account to the credit 
union can fairly be seen as undercutting the authority of the federal 
government to easily regulate marijuana through the traditional banking system.

Right now, traditional banks would rather not risk prosecution - or 
regulatory trouble - to get a few million dollars from marijuana 
businesses. And so to keep the industry on a low throttle, the 
federal government need only threaten tighter enforcement, and 
already skittish banks might get out entirely. In this way, 
restricting banking limits the size of the industry without directly 
challenging the states that have legalized it.

With the credit union, Mr. Conti-Brown said, "The dam breaks." The 
credit union is not looking to marijuana businesses for "small 
deposits," he said. "It's their raison d'etre."

If the federal government goes after such an institution, Mr. Mason 
argued further, it will no longer be just a banking issue. "If they 
come after me, it represents an attack on the industry itself," he 
said, and, by extension, the voters who approved it. "They're 
attacking the will of the people," he said.
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MAP posted-by: Jay Bergstrom