Much has been written about the difficulties and limitations of insuring leaf-touching cannabis businesses. However, any individual or company simply interacting with the cannabis industry may unsuspectingly have a gap in insurance, or worse, be jeopardizing their entire insurance portfolio. Fortunately, this issue is increasingly fixable if addressed proactively.
As the number of cannabis businesses increase, more ancillary companies are providing products and services to those cannabis businesses, including professional advice, software, technical support, leasing property, packaging, among others. Businesses interacting with the cannabis industry have some increased risk, but it is relatively benign. With the advice of counsel, most businesses have accepted these risks; however, they may not be risks that are accepted by their insurers. This is a crucial consideration that should be an integral part of the up-front decision to be associated with cannabis. Even though nothing about the services or products being provided is different for a cannabis customer than for any other customer, insurance carriers may treat it very differently. This is a significant misconception that can have disastrous consequences.
Anyone acting in or interacting with the cannabis industry should be forthright with their insurers about doing business with the cannabis industry. Failure to do so could lead to no coverage whatsoever in the event of a claim so consulting with an attorney or an insurance broker who is familiar with the coverage issues prior to engaging in the cannabis space could make all the difference when it comes to protecting your business.
Standard policies may not respond to cannabis risks.
First, standard exclusions for “illegal activity,” federally scheduled substances, and “contraband,” create potential easy outs that insurers will try to rely on, especially if the insurer has refused to take on cannabis risk, as many have.
Second, some federal courts have flatly refused to enforce an insurance contract as applied to cannabis, even if otherwise covered. see, e.g., Tracy v. USAA Casualty Insurance, Case no. CIV. 11-00487 LEK, 2012 WL 928186, at *13 (D. Haw. Mar. 16, 2012).
Third, insurers may contend that other standard exclusions have unexpected applications in cannabis situations. For example, suits involving allegations of nuisance caused by cannabis vapors are increasingly common, and the funders, contractors or landlords of cannabis companies could be brought into such claims even if they do not touch the plant. However, insurance carriers may argue these claims are not covered due to standard policy exclusions for “pollution.” Moreover, even carriers who claim to cater to the cannabis industry often have extremely limited coverage,or broad exclusions, so careful analysis of the type of risk and the exclusionary language is necessary.
In some cases, the failure to disclose that you are working with or on behalf of the cannabis industry in your insurance application could even result in the rescinding of coverage for failure to disclose a material change in risk to your insurer. Any material misstatement or omission can result in the policy being rescinded, which means the policy is voided in its entirety. Insurers generally have a right to rescind the policy—at any time, even long after the policy expires—if they discover a fact that, had it been disclosed, would have impacted their decision to issue the insurance or the premium charged. See, e.g., Imperial Casualty & Indemnity v. Sogomonian, 198 Cal. App. 3d 169, 181 (Ct. App. 1988); Mitchell v. United National Insurance, 127 Cal. App. 4th 457, 474 (2005). Courts have found this remedy is available to insurers even if the loss is completely unrelated to the misstatement or omission, see, e.g., Torbensen v. Family Life Insurance, 163 Cal.App.2d 401, 405 (1958). Rescission in these situations is a fairly low threshold for insurers, and not a situation you want to find yourself in.
Thus, businesses operating even tangentially in the cannabis industry leave themselves open to coverage denials. It is crucial to obtain policies that specifically deal with these issues and which are tailored to your business needs. At least knowing the limitations of your current insurance program to respond to cannabis risks is half the battle; then you can plan, mitigate the risk as best you can, retain the risk you are comfortable with and amend your coverage to transfer the risk accordingly. For some businesses, providing full disclosure of their involvement in the cannabis industry may result in some increase in price or restriction in terms, but at least then everyone involved will be certain their insurer is aware of and comfortable with the risk. It also will curtail the insurer’s ability to argue that exclusions apply in ways that are inconsistent with the intentions of all involved. See, e.g., Green Earth Wellness Center v. Atain Specialty Insurance, 163 F. Supp. 3d 821, 833 (D. Colo. 2016). Or, particular risks can be carved out or self-insured, so long as all parties have done the appropriate risk assessment. The penalty for neglecting to prospectively confront these issues with the carrier is too great to wait and see what happens if and when you have a claim.
One type of coverage that is of vital importance for those engaging in the cannabis space is a directors’ and officers’ (D&O) policy. This is particularly important for those tangentially involved because there is still the possibility of a Civil RICO suit, which a D&O policy can potentially cover. It is possible to negotiate with a carrier and have language crafted to ensure that these types of suits are, at the very least, defended by insurers. If not, these suits likely will not be covered, and the individual directors and officers may not be aware of their personal exposure.
For those involved in investment in the industry (e.g., private equity funds, broker-dealers, investment management companies, etc.), professional liability or errors and omissions (E&O) coverage is also vital. These coverages are available on good terms, and it is possible to negotiate expanded definitions of relevant terms, such as claim and loss. These simple adjustments can ensure coverage is included for regulatory investigations, including informal inquiries, where otherwise they would not be covered. In addition, having a knowledgeable professional negotiate these coverages can often avoid the outsized retentions that some carriers demand for this risk.
If you, your client or your business are thinking about taking on a cannabis client or contracting with a cannabis business, it is imperative that you fully disclose the nature of the transaction to your insurance carriers. Working with counsel and an experienced insurance broker, it is possible to design a policy that fits your needs and the unique needs of the cannabis industry, and that will help ensure that you are treated fairly in the event of a claim.
Shanti Eagle is an insurance recovery senior associate in Farella Braun + Martel’s San Francisco office. She can be reached at email@example.com.
Martin Fox-Foster is director of claims at Emergent Risk Insurance Services in San Francisco. He can be reached at firstname.lastname@example.org