Crime in the Suites: An Analyis of Current Issues in White Collar Defense
Author Archive
Sep 07
2017

ICOs Facing an Uncertain Future in China and the U.S.

This week, in a joint statement issued by the People’s Bank of China, the securities and banking regulators, and other government agencies, the Chinese government declared that initial coin offerings (ICOs) constitute “illegal open financing behavior” and immediately froze all ICO activity.  The joint statement explained that the tokens issued in ICOs do not have legal and monetary properties, do not have the legal status equivalent to money, and cannot be circulated as a currency in market use.

Moreover, the Chinese government also ordered that companies should repatriate all funds received from past ICOs to investors, and the companies were further warned that the relevant investigative agencies would ensure compliance. Interestingly, the joint statement did not specify the method of repatriation. This raises a thorny issue of how to refund investors that paid in other virtual currencies (e.g. Bitcoin) for their tokens because the refund transaction in Bitcoin is seemingly prohibited by the joint statement as well.

This is a stark contrast with the approach by the United States’ Securities and Exchange Commission (SEC) which, this past July, released a report outlining how ICOs could qualify as securities under the US securities laws, thus requiring registration or an exemption. The combination of investors depositing funds and expectation of profits from the efforts of others drew the scrutiny of the SEC because this process mimics the main characteristics of securities. Although the SEC did not outright opine that all ICOs would be securities under federal law, subsequent ICOs have taken different forms of responsive actions, such as excluding US investors from participating in their ICO, registering the ICO in foreign jurisdictions, or enhancing the non-financial aspects of the tokens to make them more strongly resemble an asset.

ICOs (initial coin offerings) are digital token sales that have been embraced by both companies and investors as a blend between crowdfunding and an IPO. Companies conducting ICOs offer virtual tokens (virtual coins that are normally recorded on the Ethereum blockchain) for cash or another form of virtual currency.  ICOs are in the midst of a banner year in 2017 and have already raised over $2.16 billion. A large factor in their popularity is that start-up companies view them as a cost-efficient method to raise funds in a very quick timeline because an ICO avoids both the investment bank fees and regulatory compliance requirements imposed by governments when raising capital via traditional means.

Notably, the investors/buyers in an ICO only receive the tokens and, although tokens have a limited purpose for use on the platforms created to support the token’s use (for example, an online gaming platform), a primary goal of investors is to gain from the anticipated increased value in the tokens as the newly created platform increased in utility and value. Tellingly, the fact that investors often purchase a significant number of tokens (which is in excess of what they purchase for use on other online platforms) and they also purchase them well in advance of the launch of any actual platform (as opposed to simply going to a different currently active platform) speaks to speculation as a strong component of the investors’ motivation. In contrast, people do not purchase tokens for use in arcades or buy smartphones months in advance of having the option to actually use their purchased tokens to play the arcade or receive a smartphone for immediate use.

Obviously, the SEC’s approach is far more cautious than that taken by the Chinese regulators. That is partially due to legal restrictions in the US because the SEC cannot (or practically will not) simply prohibit a current business practice and order all completed transactions to be unwound immediately. Thus, it is unlikely that the US will follow the Chinese government’s model of banning ICOs. However, all companies contemplating ICOs should reevaluate the potential market in light of the shutdown of the Chinese market and also carefully consider the possibility and implications of being a security under US securities laws.

Jul 21
2017

Why Banning Criminals from the Web Doesn’t Work

A few weeks ago, the Supreme Court issued a unanimous ruling in Packingham v. North Carolina, 137 S. Ct. 1730 (U.S. 2017) invalidating a state law outlawing registered sex offenders from accessing websites which could facilitate offender-minor direct communication.  While the majority opinion and concurrence seems grounded in, and specific to, sex offender restrictions, the underlying characterizations and beliefs about websites has far-reaching consequences for other criminal defendants in state or federal courts.

Lester Packingham pled guilty to having sex with a 13-year-old girl when he was 21.  Eight years after his conviction, Lester bragged on Facebook about a happy day in traffic court, using the screen name J.R. Gerrard, and exclaiming:

“Man God is Good!  How about I got so much favor they dismissed the ticket before court even started?  No fine, no court cost, no nothing spent…Praise be to GOD, WOW!  Thanks JESUS!”

Apparently offended by the concept that someone would celebrate dodging a speeding ticket with such religious fervor, a police officer tracked down court records, obtained a search warrant, and determined that “J.R.” was actually Lester Packingham.  Lester was soon convicted of illegally accessing a “commercial social networking Web site,” as broadly defined by the North Carolina legislature.

The Supreme Court reversed the conviction based on the First Amendment’s protection of free speech, with Justice Kennedy criticizing the unnecessarily broad prohibition on accessing social networking sites, which prevented sex offenders from accessing the “vast democratic forums of the Internet,” that serve as principal sources of information on things such as employment opportunities, current events, and unrestricted opinions or ideas that have no connection to criminal plans or potential victimization of children.  Justice Alito’s concurrence agreed with striking down the North Carolina statute, pointing out that the statute’s definition of social networking sites included websites such as Amazon, the Washington Post, and WebMD. However the concurrence emphasized that states could still draft narrower, and constitutionally valid restrictions because of their legitimate interest in thwarting recidivist sex offenders.

The most interesting part of this decision is its future.  Is it really possible for a state legislature to sufficiently narrow its sights on offender/child communication to the point where the law has its intended effect while still passing constitutional muster?  If there is a North American Man Boy Love Association (“NAMBLA”) version of Tinder or Match.com, then there may be a way to characterize the “social site” in a permissible and effective way.  However, like the ones for the Washington Post or Amazon, many websites allow for user IDs for the very point of communicating with other visitors to that site, even if simply editorializing on a Washington Post story.  While the ensuing communications may not be fairly called a “chat room,” they are close enough to a “bulletin board” to bring us right back into the perils of North Carolina’s now-invalidated law.

And what of the defendants facing internet restrictions for reasons other than molestation or child pornography violations?  There are numerous defendants who are bounced off the Internet as a condition of probation or supervised release because the internet was an instrumentality for their crimes.  This probation condition that imposes an Internet ban is often referred to as CIMP- the computer and Internet monitoring program. It is imposed for both crimes that cannot be committed without a computer and also the use of a computer to facilitate the commission of traditional crimes. Some common computer-assisted offenses in the federal system that don’t require a computer per se are securities and credit card fraud, network manipulation, and on-line gambling.

Packingham will make for an interesting argument when one of these defendants is brought before the judge on a violation of probation, and the courts may have to balance constitutional concerns with facts that are much more ominous than Lester’s happy day in traffic court.

Even without the constitutional concerns, a strict CIMP condition has problems with satisfying the three statutory sentencing purposes: adequate deterrence, protection of the public from further crimes, and rehabilitation of the defendant in the most effective manner, 18 U.S.C. § 3553(a)(2)(B)-(D). While a strict ban obviously satisfies the adequate deterrence and public protection purposes, it does not further the purpose of rehabilitation.  It can even frustrate the rehabilitation purpose because an unreasonably restrictive Internet ban often means that defendants are unable to comply and end up in violation of their probation conditions. For example, below are some sample probation conditions that are quite onerous and likely to result in a probation violation:

  • You must not possess and/or use computers (as defined in 18 U.S.C. § 1030(e)(1)) or other electronic communications or data storage devices or media.
  • You must not access the Internet.
  • You must not access the Internet except for reasons approved in advance by the probation officer.

Generally, the imposition of monitoring and access by probation of a defendant’s computer remains problematic in many cases because- like in the sample conditions listed above-  it imposes a greater deprivation of liberty than is reasonable necessary. This was acknowledged by the 10th Circuit, which stated as a matter of general principle that, “conditions imposing complete prohibitions on Internet use or use of Internet-capable devices will typically constitute greater deprivations of liberty than reasonably necessary, in violation of § 3583(d)(2).”  With constantly evolving technology and the Court’s balancing act as evidenced in Packingham, it is likely that additional similar cases will wind their way through the state and federal appellate courts this year. Meanwhile, we would advise counsel and defendants to vigorously push back against any imposition of a restriction on Internet access (whether via a CIMP condition or otherwise) and to impress upon the judge at sentencing that these conditions raise both constitutional concerns and sentencing policy concerns.

Feb 01
2017

Will Clemency Continue?

There are many big policy changes happening in Washington these days and they receive appropriate press coverage. But, there are also many smaller changes that can have literally life changing effects on citizens, which are not generally reported in the media. One of those smaller changes is whether the Trump administration will revive a clemency program for federal inmates that effectively concluded with the end of the Obama administration.

In 2014, the Obama administration developed a clemency program to encourage non-violent drug inmates to apply for presidential clemency, provided they have served at least 10 years of their original sentence and met other guidelines. The Department of Justice program was aimed at inmates that were sentenced under the mandatory minimum sentencing for drug offenses that were established in the 1980’s, and, who would have received a lesser sentence if sentenced under the current sentencing guidelines. This clemency program was important because nearly half of all federal prisoners are serving time for drug-related offenses.

In order to implement this program, the Department of Justice program partnered with The Clemency Project 2014, a pro-bono effort by lawyers throughout the United States, to efficiently process clemency applications on behalf of inmates. The Clemency Project consisted of approximately four thousand lawyers from the National Association of Criminal Defense Lawyers, the American Bar Association, the American Civil Liberties Union, and many others. Ifrah Law also participated in Clemency Project 2014 and represented several defendants that were granted clemency.

This clemency program effectively concluded with the end of the Obama administration and it appears unlikely that President Trump- who campaigned on a “law and order” principle- would be inclined to revive it.

Further, although neither President Trump nor Sen. Jeff Sessions (the attorney-general nominee) have made direct statements with regard to continuing the clemency program, their past comments indicate that they do not support it. For instance, during the campaign, President Trump commented on the clemency program saying, “Some of these people are bad dudes…And these are people who are out, they’re walking the streets. Sleep tight, folks.”

Moreover, back in 2014, when the Obama administration first announced its intention to initiate the clemency program, then-Senator Sessions issued a statement condemning the use of presidential pardons to grant clemency as “an alarming abuse of the pardon power,” protesting that “While the pardon power has been interpreted broadly, the Framers never intended for it to be used in this manner.” Sen. Sessions’ statement also noted that, “In addition to these serious constitutional concerns, there are serious policy concerns”, and, “it sends the message that the United States government is not serious about combating drug crimes”.  So, assuming Sen. Sessions is confirmed as the next Attorney General, he does not seem predisposed to reviving the clemency program in any form.

Even so, and notwithstanding the prior negative comments by President Trump and Sen. Sessions, there is some hope of a bi-partisan push by Congress to amend the current federal sentencing structure and address a clemency program. The Congressional momentum comes from a joint interest by members focused on criminal justice reform and members interested in reducing the fiscal costs borne by the prison system. Federal prison costs account for nearly a third of the entire Department of Justice’s $27 billion annual budget; incarceration of one individual costs the Bureau of Prisons approx. $80/day (or $29,000/year), while probation supervision costs only $10/day (or $3,500/year).

This fiscal concern has paved common ground between criminal justice reform advocates and fiscal conservatives, which provides a glimmer of hope that a compromise can be reached to provide meaningful reform that reduces the federal inmate population in a responsible manner, without compromising our nation’s “law and order,” and possibly reviving the Clemency Program to do so.

Finally, in his recent interview with Fox News’ Sean Hannity, President Trump was asked about pardoning a Navy sailor imprisoned for taking photos inside a submarine. President Trump responded that he was “looking at it right now” and that “I think it’s very unfair in light of what’s happened with other people.” We think that same sentiment would apply to the Clemency Program, which was focused on inmates that received sentences that were “unfair in light of what’s happened with other people” and would urge the President to consider reviving the Clemency Program.

Mar 30
2016

Online Poker: A New Way to Bank?

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In light of Tax Day (note that it’s on the 18th of April this year due to a holiday on the 15th) we want to point out a curious ramification from a federal case concerning online gambling, tax reports, and foreign accounts.

In United States v. Hom [1], the defendant, John C. Hom, was an online poker player who had money in player accounts situated outside America. Accounts such as these are used for depositing funds, wagering them on the site, and withdrawing whatever remains; they are not generally treated as “bank accounts” proper, and Hom did not bother to file a tax return on them. Surprisingly, the court said he should have.

As explained by the court in its decision, an individual is mandated to file an FBAR (a Report of Foreign Bank and Financial Accounts) for a reporting year if all of these requirements are satisfied:

(1) he or she is a United States person;

(2) he or she has a financial interest in, or signature or other authority over, a bank, securities, or other financial account;

(3) the bank, securities, or other financial account is in a foreign country; and

(4) the aggregate amount in the accounts exceeds $10,000 in U.S. currency at any time during the year.

Id. at 1178.

In Hom’s case, three of the requirements were clearly satisfied: the defendant was a U.S. citizen (1), the accounts, like the gaming companies holding them, were located in a foreign country (3), and the aggregate amount in those accounts exceeded $10,000 (4).

Requirement (2) was the sticking point. Could an online poker account really clear the definition of “other financial account,” thus compelling Hom to file an FBAR? His team argued that it didn’t: the funds weren’t held in a bank or securities account and the defendant’s actions were limited to making deposits and withdrawals. Strikingly, the court ruled that it was a financial account because “he opened up all three accounts in his name, controlled access to the accounts, deposited money into the accounts, withdrew or transferred money from the accounts to other entities at will, and could carry a balance on the accounts.” Id. at 1179. The ability to deposit and withdraw at will sufficed to make the gaming companies “function as institutions engaged in the business of banking. Accordingly, defendant’s accounts are reportable even under the current regulations.” Id.

This is a very broad expansion of what passes for a financial institution, and it begs the question of how far it can go. For example, are funds in an attorney escrow account, or other escrowed accounts for a foreign transaction, FBAR reportable? After all, they, too, permit the client to make withdrawals and deposits and carry a balance—and possibly even control access.

Hom is only one case; other courts aren’t bound by it. However, they could still be influenced by this decision. It is therefore prudent to file an FBAR on gambling accounts located overseas that exceed $10,000. Furthermore, one should wonder whether other courts will borrow this reasoning and apply it to other forms of escrow accounts. These questions are very pertinent in light of the IRS’s continuing emphasis on the disclosure of foreign accounts.

[1] United States v. Hom, 45 F. Supp. 3d 1175 (N.D. Cal. 2014)

 

Sep 08
2014

The Hidden Regulatory and Licensing Consequences to a Conviction or Arrest

Business criminals

When it comes to a conviction, or even an arrest, the collateral consequences that are sometimes overlooked by client and counsel can be extremely damaging, especially when dealing with government agencies and programs.

One such set of consequences is unique to contractors who do business with federal or state governments.  Because even a plea to a criminal conviction represents a person’s affirmative statement of the underlying facts, that can lead to a proceeding to suspend or debar (that is, prohibit) the contractor from federal or state business. A government agency may issue a notice of suspension or debarment based on the criminal conviction alone, if the statute provides for such a basis of debarment.  Moreover, in some circumstances, a government agency may issue a notice of suspension or debarment based on the underlying conduct (which the plea or conviction affirms as true) that poses a risk to the integrity of government contractors. Thus, even if a government contractor facing serious charges and a lengthy trial enters a plea to a less serious charge, that plea may cause the debarment of the government contractor and possibly deal a fatal blow to its business based on the conduct on which it was based.

Another example of an unforeseen consequence is when a person applies for one of the various government programs that are a “privilege” and not a right. The U.S. Customs and Border Protection (CBP) has implemented Trusted Traveler Programs, such as the Global Entry program, which allows expedited clearance for pre-approved, low-risk travelers upon arrival in the United States. There is no right to participate in that program; rather, it is a privilege granted to individuals upon acceptance by the CBP. There is an application process for entry into the program, and, the CBP explicitly warns that applicants may not qualify if they have been convicted of any criminal offense or have pending criminal charges or outstanding warrants.  Notably, as with similar statutes or prohibitions, there is no end date for when the CBP will stop considering the criminal conviction. Therefore, the criminal conviction will likely act as a lifetime bar to gaining acceptance into this program and into similar types of programs.

Collateral consequences are increasingly becoming an important area of law due to the fact that the total number of collateral consequences has increased tremendously in recent years. This requires a broad understanding of many areas, which is contrary to the trend in law practice of specialization in niche practice areas. Unfortunately, counsel are often completely unaware of the potential collateral consequences in practice areas outside their scope of practice.  With funding provided by a DOJ grant and other sources, the ABA has developed an interactive tool called the National Inventory of the Collateral Consequences of Conviction (available at www.abacollateralconsequences.org), which provides a database of the sanctions and restrictions in each state.  This is a useful tool for both counsel and client in understanding the full gamut of collateral consequences resulting from a criminal conviction.

Aug 29
2014

Collateral Damage: Criminal Convictions and the Lasting Consequences

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Prosecutors and often even judges do not appreciate the collateral consequences of a criminal conviction, regardless of whether it results from a trial or a plea agreement.  While the direct consequences of conviction are obvious – such as jail time, probation requirements, and fines – the collateral consequences are more insidious.  Yet sometimes those consequences can have an even greater impact on a person’s life than the sentence meted out by the court.  These consequences may be difficult to identify, though they may be mandated by statutes and regulations scattered throughout state and federal law, and may arise from a misdemeanor conviction, or even a simple arrest.

One of the most serious collateral consequences of a criminal conviction is its effect on a person’s immigration status, and thanks to the United States Supreme Court, it is now one that has great visibility for most defense counsel. In Padilla v. Kentucky (130 S. Ct. 1473 (2010)), the U.S. Supreme Court held that the Sixth Amendment’s guarantee of effective assistance of counsel requires that a defendant must be provided with notice of deportation consequences of a guilty plea he or she is considering.  This issue arises most frequently in the context of drug cases because of the draconian treatment of such conduct under U.S. law for non-citizens.  Since the Supreme Court’s opinion in Padilla, many courts now specifically include in their allocution during guilty pleas a specific notice regarding the possibility that a guilty plea may result in immigration consequences for the, including deportation, reversal of naturalization and non-admission.

But there are many other collateral consequences that are routine, but are not always referenced in a plea agreement and are often not recognized by defendants.   Under federal law, a person convicted of a felony may not possess a firearm – indeed, possession of a firearm by a felon constitutes a felony violation itself.  And many state laws require that defendants who commit sex crimes register with local authorities.   A conviction for driving under the influence of alcohol or drugs may result in the administrative loss of driving privileges for a period of time.

There are even more serious collateral consequences that persist for long periods of time involving exclusion from employment prospects, eligibility for professional licensing and access to government benefits. For instance, employees in the nursing care industry are generally subject to background checks by their employer and are required to maintain certain licensing in their individual capacity as a condition to working in the industry. But even a relatively minor criminal conviction will raise a red flag on the background check and foil any chance of receiving a license. Similarly, a state agency may refuse to issue a business an operating license if some of its higher level employees have criminal convictions. Not only does this restriction limit a person’s employment prospects, but more broadly, they also harm the person’s chances of earning any livelihood because this person will also be prevented from owning any business that required such a state license.

For these reasons, it is absolutely essential that when considering whether to accept a plea agreement that both counsel and the client understand the consequences of the guilty plea in order to properly evaluate the benefits and the collateral damage of accepting a guilty plea versus proceeding to trial.  And it is essential that counsel advise their clients in an effective manner of the consequences of a conviction that may persist long after the clients leave the courthouse or the jail.

Jul 11
2014

NY Legalizing Medical Marijuana with the Compassionate Care Act

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Severely ill patients in New York State are celebrating Gov. Andrew Cuomo’s signature of a bill that legalized medical marijuana in New York for many severely ill patients[1]. As noted by Assembly Speaker Silver in his remarks, “With this agreement, we are assuring access to that much-needed relief while ensuring the tightest possible regulation and state supervision.” Indeed, the New York bill does contain many restrictions on the use of medical marijuana, which were necessary in order to gain the agreement of Governor Cuomo for the passage of the bill.

For instance, the bill’s coverage is limited to “certified patients” that submit an application and receive their “registry identification card.” The requirements are extensive and include: patients are residents of New York, are receiving care and treatment in New York, and have a “serious condition”, which is limited to “severe debilitating or life-threatening conditions” like cancer, ALS, Parkinson’s disease, HIV/AIDS, Lou Gehrig’s disease, Huntington’s disease, epilepsy, neuropathic diseases, and multiple sclerosis or as determined by the commissioner of public health. A certified patient is also required to “possess his or her registry identification card at all times when in immediate possession of marijuana.”

Additionally, the final bill included a compromise provision, again on Gov. Cuomo’s insistence, that prohibits the possession of medical marijuana “if it is smoked, consumed, vaporized, or grown in a public place.” Instead, patients will take medical marijuana through an oil-based vaporizer, edible, or otherwise ingest the drug like any other pill.

Further, medical marijuana can only be administered by “practitioners”- i.e. doctors who are registered with the NYS Health Department to issue a patient certification, and, “no person may be a designated caregiver for more than five certified patients at one time.”

There are also restrictions on the manufacturers. Medical marijuana can only be sold by a “registered organization” that manufactures and dispenses in “an indoor, enclosed, secure facility located in New York state.” In addition to future regulations to be issued by the commissioner, a registered organization must possess “good moral character”, “sufficient land, buildings, … and equipment to properly carry on the activity described in the application”, or, post a $2M bond. Interestingly, the per dose price is also set by the commissioner so that this enterprise may not become some profit-making engine.

As a necessary assurance, the bill provides that certified patients, practitioners, and registered organizations are not subject to civil, criminal, or disciplinary proceedings because of their practices in accordance with the bill.

Finally, there is a seven year sunset provision in the bill, which essentially means the bill would need to be reauthorized, meaning that if it is not, medical marijuana will no longer be legal. The bill also contains a provision that authorizes the governor to terminate the medical marijuana program at any time if it is deemed to pose a public safety issue.

Despite these restrictions, Governor Cuomo stated: “Medical marijuana has the capacity to do a lot of good for a lot of people.” We wholeheartedly concur and feel there is no more appropriate ending than with the words of Assembly Speaker Silver: “This is a great day for New Yorkers.”

[1] Note: The New York bill refers to “marihuana”, but we have used the commonly known “marijuana” throughout for ease of reading.

 

posted in:
State Criminal
May 13
2014

SEC Takes Proactive Approach to Cybersecurity

Last month, the Securities and Exchange Commission’s (“SEC”) Office of Compliance Inspections and Examinations (“OCIE”) formally announced its cybersecurity initiative in a Risk Alert. The initiative followed up on OCIE’s announced prioritization of cybersecurity preparedness as part of its 2014 Examination Priorities. The initiative is also timely because the general public is becoming more conscious of cybersecurity risks and its dangers as they learn of major breaches at Target Corp., Neiman Marcus, Michaels Stores Inc., and other companies. The security of personal information is even more important at financial services companies, which often have a large amount of sensitive personal information about their customers.

The OCIE’s approach is refreshingly proactive: “OCIE’s cybersecurity initiative is designed to assess cybersecurity preparedness in the securities industry and to obtain information about the industry’s recent experiences with certain types of cyber threats.” Further, the areas of cybersecurity assessment are quite broad and they cover “the entity’s cybersecurity governance, identification and assessment of cybersecurity risks, protection of networks and information, risks associated with remote customer access and funds transfer requests, risks associated with vendors and other third parties, detection of unauthorized activity, and experiences with certain cybersecurity threats.”

Importantly, the OCIE examination is detailed and specific about ensuring the adequacy and efficacy of cybersecurity measures. For example, the list of questions regarding identification of cybersecurity risks requires exact dates and times and is prefaced with “please provide the month and year in which the noted action was last taken; the frequency with which such practices are conducted; the group with responsibility for conducting the practice…”.

Further, the OCIE examination questions require naming the person(s) conducting the cybersecurity measures and when those measures were last checked or implemented. For example, the questions on identification of risks/cybersecurity governance include:

  • Who (business group/title) conducts periodic risk assessments to identify cybersecurity threats, vulnerabilities, and potential business consequences, and in what month and year was the most recent assessment completed?
  • Please describe any findings from the most recent risk assessment that were deemed to be potentially moderate or high risk and have not yet been fully remediated.

Similarly, the questions regarding a written cybersecurity incident response policy seeks a copy of the policy, the year it was most recently updated, whether there are tests to assess the policy, who conducts the tests, and when and by whom the last test was conducted. Likewise, the questions on event detection processes seek the month and year of the most recent test.

The examination questions also seek a summary of any actual cybersecurity incidents, the services affected, nature of the breach, the availability of services during the breach, and number of other questions about each cybersecurity incident. Notably, although the examination requires companies to provide a large amount of information, the SEC explicitly issued a disclaimer that the “factors are not exhaustive, nor will they constitute a safe harbor.”

Nonetheless, it is good to see the SEC take a proactive approach to the cybersecurity risks posed to financial institutions. Hopefully, this will flow down to other companies because cybersecurity is a hot-button topic that is very concerning to customers and unlikely to be fully resolved soon. With cooperation between government agencies and the private industry, we can be hopeful that cybersecurity risks can be mitigated. As SEC Chair White has noted, there is a “compelling need for stronger partnerships between the government and private sector” to address cybersecurity threats.

posted in:
Cybersecurity
Feb 21
2014

Banks Shy Away From Processing Marijuana Transactions in Colorado – Will Anyone Step Up?

Last Friday, the Department of Justice (DOJ) and the Department of Treasury, Financial Crimes Enforcement Network (FinCen), both published new guidance in connection with the legalization of recreational marijuana in Colorado. Because marijuana use remains illegal under federal law, the banking industry is prohibited from servicing any marijuana-related bank accounts. This forces the recreational marijuana industry to operate on an all-cash basis, which increases public safety risks (both to retailers and to customers) and is a great inconvenience to the industry (which is required to take extreme measures such as hiring armed guards, installing very high tech security measures, and the businesses are unable to obtain bank loans or credit).

In response, FinCen’s guidance, along with the DOJ memo, was supposed to enable marijuana-related banking and eliminate the public safety concerns, as it clearly stated: “This FinCEN guidance should enhance the availability of financial services for, and the financial transparency of, marijuana-related businesses.” Although the guidance pursued an admirable goal, it fell remarkably short.

The DOJ memo states:

“The provisions of the money laundering statutes, the unlicensed money remitter statute, and the Bank Secrecy Act (BSA) remain in effect with respect to marijuana-related conduct. Financial transactions involving proceeds generated by marijuana-related conduct can form the basis for prosecution under the money laundering statutes (18 U.S.C. §§ 1956 and 1957), the unlicensed money transmitter statute (18 U.S.C. § 1960), and the BSA. … Notably for these purposes, prosecution under these offenses based on transactions involving marijuana proceeds does not require an underlying marijuana-related conviction under federal or state law.”

Simply stated, the DOJ memo confirms that recreational marijuana use remains illegal under federal law and could serve as the basis of prosecution against banks (or individuals), but that the DOJ will probably not enforce the applicable federal statutes against banks for processing marijuana-related accounts, provided that the banks follow certain guidelines that are outlined in the DOJ memo.

These wishy-washy “promises” of non-enforcement are extremely unlikely to sway banks from their decision not to permit marijuana-related accounts. Banks are naturally conservative and also have a huge self-interest to be 100% compliant with federal law because of the highly regulated banking industry; therefore, banks are only likely to permit marijuana-related accounts if it was legal under federal law, or if there were some form of safe harbor for the banks. However, there is clearly no safe harbor with the recent regulations and guidance.

For instance, the DOJ memo explicitly states: “Neither the guidance herein nor any state or local law provides a legal defense to a violation of federal law, including any civil or criminal violation of the CSA, the money laundering and unlicensed money transmitter statutes, or the BSA, including the obligation of financial institutions to conduct customer due diligence.”. The FinCen memo also repeats “that the illegal distribution and sale of marijuana is a serious crime…” Thus, although the guidance issued by DOJ and FinCen on the surface appear to be helpful, they are ultimately toothless.

Further, the ultimate decision (and the inherent risk and liability) remains with the banks, as also noted in the FinCen memo: “In general, the decision to open, close, or refuse any particular account or relationship should be made by each financial institution based on a number of factors specific to that institution.” Therefore, in the absence of any safe harbor and the illegal status of marijuana under federal law, banks will likely pursue the safe option of refusing to process marijuana-related accounts.

This scenario is quite similar to the recent aftermath in New Jersey when it legalized online gaming for intrastate users. Although New Jersey declared online gaming legal under New Jersey state law, banks generally refused and continue to refuse to process online gaming accounts. Banks deemed these accounts too risky because their internal regulations dictate that they would not process payments for accounts related to online gaming for real money when it was still prohibited in other states and would be an unwanted burden on their compliance checks. Similarly, the ultimate conclusion of banks considering marijuana-related accounts is likely to refuse to allow such accounts because they are still illegal under federal law and permitting those accounts presents an unwelcome risk for the banks.

Another significant hurdle that may cause banks to refuse marijuana-related accounts is the significant disclosure requirements applicable to the banking industry that are mandated by federal agencies like the FDIC and Federal Reserve. Banks, particularly banks that are publicly traded entities, have many filings and disclosures that they are required to make on a consistent basis. Therefore, the banks would presumably have to disclose that they are currently violating federal law by processing marijuana-related transactions and permitting marijuana-related accounts (and anticipate continuing to violate the federal laws). Regarding disclosure requirements, it should make no difference whether the DOJ presently anticipates prosecuting those crimes or how much of a priority they are in accordance with the DOJ memo – the fact remains that the bank is violating the federal law and that must be disclosed. Indeed, the DOJ could decide to prosecute these crimes at any time in the future. Furthermore, that disclosure (i.e. that they are currently violating the law) would likely trigger a host of regulatory issues that require banks to comply with all federal laws.

Yet, the banking market for marijuana-related accounts remains lucrative and underserved. The million dollar question is which bank will take the leap of faith to enter the marijuana industry?

One possibility is a Colorado bank that only has Colorado branches may be willing to permit marijuana-related accounts. Obviously, the potential reward is great because of the lucrative and underserved marijuana industry market. More importantly, the risk to Colorado banks is lower because they only operate in Colorado and can legitimately claim they are complying with all laws because Colorado state law permits recreational marijuana use, so they can be more confident that the DOJ will not prosecute them. More importantly, even if the DOJ decides to prosecute them, the state of Colorado will likely defend them and throw their weight behind the local bank, because if Colorado did not, then the whole recreational marijuana law and industry would quickly collapse.

Consequently, the risk-reward equation for a local Colorado bank is tilted more favorably toward permitting marijuana-related accounts because there is less risk to a Colorado-only bank, and the reward would be given more weight because the value of the marijuana accounts would mean much more to a smaller Colorado bank than to a larger national one. In the meantime, one would hope that the federal agencies would issue guidance that provides more clarity and real solutions to this issue, rather than just discouraging banks from this industry by issuing vague guidance.

Feb 12
2014

Wild, Wild West: The Legalization of Marijuana Brings Lots Of Regulatory Concerns

The beginning of 2014 has brought many new laws into effect and we have written on a number of them. But few laws have received more mainstream media exposure than Colorado’s legalization of recreational marijuana. Of more importance to us, the legalization of recreational marijuana has posed some interesting problems for regulators.

The most obvious effect of the law was to allow the recreational use of marijuana, but there has also been a significant side effect: Colorado has seen an explosion of food products with marijuana additives (known as “marijuana edibles”). A big reason for the wide variety of marijuana infused products is because it is relatively simple to manufacture them. The regular food manufacturing process is used and then cannabis oil is added to the recipe, which adds THC (tetrahydrocannabinol) the main psychoactive substance in marijuana, to the food. Marijuana edibles range from candies and sweets (e.g. chai mints, truffles) to sodas to cake (e.g. cookies, brownies), and even peanut butter. These products are especially attractive to people who want to avoid the coughing and inhaling of pot smoke, or, to partake of marijuana in a place where smoking is not permitted.

We are not generally in favor of more regulation, but we do think that there is a need for more robust regulation of marijuana edibles.  These are standard food products with all the associated risks (e.g. going rancid, food poisoning like salmonella).  Also, THC is not particularly stable as a good additive. Yet, despite these characteristics that pose risks associated with food products, marijuana edibles are not being monitored by the experienced federal food regulators (such as the Centers for Disease Control and Prevention and the Food and Drug Administration).  Moreover, Colorado Department of Public Health also cannot provide oversight because part of their funding comes from the federal government.  And while Colorado’s Marijuana Enforcement Division may monitor these products, its original purpose was to regulate the medical marijuana industry and it is therefore ill equipped to regulate the entire recreational marijuana industry from the perspective of experience and resources.  The Marijuana Enforcement Division has taken some significant steps to ensure marijuana edibles’ safety – such as requiring laboratory certification of edibles and implementing a tracking program that would be able to trace any food poisoning outbreaks directly back to the plant – but the absence of experienced food regulators from this process is worrisome.

Like many new laws, the legalization of recreational use of marijuana in Colorado is creating unforeseen challenges for regulators necessary to ensure the health and safety of the public.  We are confident that, even in the continued absence of federal agency involvement, Colorado state authorities will find new and effective ways to meet these challenges.

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About Ifrah Law

Crime in the Suites is authored by the Ifrah Law Firm, a Washington DC-based law firm specializing in the defense of government investigations and litigation. Our client base spans many regulated industries, particularly e-business, e-commerce, government contracts, gaming and healthcare.

Ifrah Law focuses on federal criminal defense, government contract defense and procurement, health care, and financial services litigation and fraud defense. Further, the firm's E-Commerce attorneys and internet marketing attorneys are leaders in internet advertising, data privacy, online fraud and abuse law, iGaming law.

The commentary and cases included in this blog are contributed by founding partner Jeff Ifrah, partners Michelle Cohen and George Calhoun, counsels Jeff Hamlin and Drew Barnholtz, and associates Rachel Hirsch, Nicole Kardell, Steven Eichorn, David Yellin, and Jessica Feil. These posts are edited by Jeff Ifrah. We look forward to hearing your thoughts and comments!

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