Transfer, Administration, and Taxation Issues For Marijuana-Related Assets in Estate Planning

Legal cannabis is one of the fastest-growing markets in the United States. With eleven states permitting recreational use as of March 2020 and forty-seven states allowing some form of medicinal use, estimates project more than $23 billion in consumer spending on legal cannabis in the United States by 2022. Despite rapid state-level changes, marijuana remains classified as a Schedule I controlled substance under federal law. The difficulties in navigating this legal landscape are especially prevalent in estate planning, and the presence of marijuana-based assets in an estate plan may have broad impacts on transfers, administration, and taxation.

These issues arise for clients, potential fiduciaries, and potential beneficiaries when an asset to be transferred or otherwise disposed of upon the death of an individual is related either directly or indirectly to marijuana.  There are two general categories of assets at issue: assets owned by an individual or business that have direct contact with marijuana, such as cultivation manufacture/processing, or sale of marijuana, and assets owned by an individual or business that are related to marijuana such as manufacture or sale of products utilized in the production or consumption of marijuana, real estate upon which production is conducted, or a provider of ancillary services such as accounting, banking, or inventory management. The former requires a greater level of attention in structuring an estate plan.

Transferring Marijuana-based Assets

A preliminary consideration for marijuana-based assets is whether a testamentary instrument may legally transfer ownership. Owners of marijuana businesses should invest in establishing a clear business succession plan at the outset and should investigate buy-sell agreements, cross-purchase plans, or entity purchase plans. Careful planning on the front end may avoid some of the more difficult issues discussed below.
The next step is to determine if a beneficiary may take ownership of the asset. State laws vary on the restrictions preventing minors from possessing or owning such assets, either outright or in trust, and it is important to consider how a minor beneficiary may benefit from inherited assets without contravening those restrictions.  Similarly, a beneficiary who has reached the age of majority may nonetheless be restricted in their ability to take ownership by virtue of a prior conviction for a disqualifying offense. As an added complication, each state has differing prerequisites and procedures for transferring ownership of a state-issued marijuana license. Ownership as well as control of marijuana businesses are both heavily scrutinized by state regulators, and many states place limitations on the timeframe in which ownership or control may be changed. The qualifications and application process to transfer an existing license or issue a new license may cause significant delays in the ability to transfer or may prevent transfer altogether. Again, a clear business succession plan can serve to avoid these pitfalls.

It is important to note that the laws of the decedent’s domicile prior to death will govern the transfer of assets by a decedent, but the laws of the beneficiary’s domicile will be applicable in determining whether or not they may take possession of the asset.

Administering Marijuana-based Assets

Another potential issue is whether a named fiduciary, such as the executor or administrator of an estate, property management agent, or trustee, is able and willing to serve. Given the uncertainty surrounding marijuana-based assets on the federal level, a fiduciary may be concerned about exposure to civil and criminal liability. While individuals may rely on the enforcement priorities outline in the Cole II memorandum issued August 2013 by the Department of Justice, a corporate fiduciary may decline its appointment. A fiduciary may also face challenges in working with financial institutions in light of the comprehensive requirements imposed by FinCEN in its 2014 guidance, including filing Suspicious Activity Reports and other onerous paperwork under its anti-money-laundering regulations. Because states closely regulate the control and operation of marijuana businesses, a fiduciary may face the same issues as a beneficiary in undergoing the application and approval process by the state’s regulatory authority. 

From the fiduciary’s perspective, marijuana assets present other unique administration considerations.  A fiduciary who is bound to invest in the same manner as a prudent investor under the Uniform Prudent Investor Act in over 40 states may find it challenging to assess marijuana investments given the uncertain degree of risk. Further, administering marijuana businesses presents unique income tax considerations. Under Section 280E of the Internal Revenue Code, tax deductions and credits are not available to companies whose business consists of “trafficking in controlled substances.” 26 U.S.C. §280E. As a result, marijuana businesses are not allowed to take tax deductions on normal business expenses like employee salaries, rent, and utility bills, increasing their effective federal tax rate significantly.

Business and Estate Taxation of Marijuana-based Assets

Even though marijuana-based assets are illegal federally, the IRS can still demand payment of estate tax on any transferrable business assets connected with an illegal enterprise. The IRS has held that although an item may be illegal to own, an illicit market may nevertheless exist to measure the value of the property for estate tax purposes. Although the federal estate tax exemption remains high, marijuana-based assets have the potential for tremendous value due to the rapid growth of the industry in the United States.

Clients with assets that relate directly or indirectly to marijuana should give careful attention to the unique considerations for estate planning. Contact Frantz Ward’s Cannabis Law and Policy group to plan ahead for the transfer, administration, and taxation of marijuana-based assets.

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