Working With a Commercial Cannabis Tenant

1/17/2018 Articles

The emergence of legalized marijuana for recreational adult use in California, beginning in some counties as early as January 2018, will require those involved in commercial real estate to continue to consider the pros and cons of leasing space to a commercial cannabis tenant.  The opportunities, obligations, and implications are numerous, and this short article touches on merely one aspect for the industry to consider.

As part of the licensing process that will go into effect on January 1, 2018, the State of California is now requiring that cannabis tenants provide a simple written confirmation from their landlord that: (1) the tenant has the right to continue to occupy its leased space; and (2) the tenant may continue to use its leased space for its commercial cannabis activity. 

Because of this requirement, commercial landlords who rent to cannabis tenants may not be able to passively acquiesce in a tenants’ cannabis activity, but instead may need to specifically and expressly acknowledge in writing their tenants’ right to conduct their cannabis business on the property. 

Many landlords may be hesitant to provide this written acknowledgement, given the uncertainty around how the federal government is going to handle enforcement under the new administration and how a written acknowledgement might impact their own exposure.  Although cannabis businesses may be in full compliance with California law, their operations will remain illegal under federal law.  Penalties for violating the federal Controlled Substances Act (the “CSA”) are serious and, depending on the quantity of marijuana involved, can include criminal penalties of up to 20 years in prison and/or a fine of up to $2,000,000.  Moreover, and of particular interest to a cannabis operation’s landlord, the federal government can seize, and seek federal forfeiture of, the real or personal property used to facilitate the sale of marijuana as well as the money or other proceeds from the sale.  State laws and local ordinances are not a defense to civil or criminal enforcement of federal law.

So can a landlord simply refuse to sign a tenant’s request for an acknowledgement?  Maybe not.  California recently passed Assembly Bill 1159 which confirms that commercial cannabis activity conducted in compliance with state and local laws is a lawful object of an enforceable contract.  So long as a tenant operates its business in compliance with both state and local laws, the lease is both a legal and enforceable agreement in California.

Further, as with any contract in California, a lease includes an implied covenant of good faith and fair dealing.  That covenant has been interpreted to mean that so long as a tenant is operating its business in conformity with the law and the terms of a lease, a landlord is required to reasonably cooperate to allow the continuation of a tenant’s business.  That covenant is mirrored and reinforced by the implied covenant of “quiet enjoyment” (sometimes expressly stated) which generally reiterates the tenants’ right to be allowed to continue to pursue their business operations unimpeded by a landlord. 

Although it is still an open question, a landlord who in fact understands that a tenant’s business is related to cannabis may be obligated to take the simple additional step of signing the required written acknowledgement, so as not to prevent the tenant from using the property it lawfully leased.  A landlord who refuses to sign the required acknowledgement may be breaching the landlord’s lease obligations, which could arguably expose the landlord to damages incurred by the tenant as a result of the refusal.  Commercial landlords should weigh these risks, and the accompanying opportunities emerging in the commercial cannabis industry carefully.