Plan Including Marijuana Tenant not “Up In Smoke.”

By: Cameron Purcell

St. John’s University School of Law

American Bankruptcy Institute Law Review, Staff Member

In Garvin v. Cook Invs. NW, SPNWY, LLC, the United States Court of Appeals for the Ninth Circuit held that a bankruptcy court could confirm a plan under Chapter 11 of title 11 of the United States Code (the “Bankruptcy Code”) of a debtor that derived income from a lease with a marijuana grower.[i] Pursuant to the terms of a lease, Cook Investments NW (“Cook”) leased real estate in Washington to Green Haven.­[ii]  Green Haven used the leased property exclusively as a marijuana establishment, as permitted by Washington law. The Federal Controlled Substances Act (“CSA”) classifies marijuana as a schedule 1 controlled substance.[iii]  Thus, the lease was in violation of the CSA, which "‘prohibits knowingly . . . leas[ing] . . . any place . . . for the purpose of manufacturing, distributing, or using any controlled substance. . .­ .’”[iv]  In 2009, Cook filed a voluntary petition for relief under Chapter 11 of the Bankruptcy Code after it defaulted on a loan from Columbia State Bank that was secured by, among other things, the property leased to Green Haven.[v]  The Office of the United States Trustees filed a motion to dismiss Cook’s Chapter 11 case for cause under section 1112(b), arguing that the Green Haven lease constituted a gross mismanagement.[vi]  After the bankruptcy court denied the Trustee’s motion, Cook filed an Amended Plan, pursuant to which all creditors would be paid in full and Cook would continue as a going concern.[vii]  The Plan further provided that the distributions to creditors’ claims would not be funded from the Green Haven’s lease payments.[viii]  The bankruptcy court confirmed the Amended Plan, despite the Trustee’s objection that it was proposed by means forbidden by law.[ix]

Under section 1129(a)(3) of the Bankruptcy Code, a reorganization plan must be “proposed in good faith and not by any means forbidden by law.”[x]  This imposes a negative requirement that the plan must not have been proposed by any unlawful means.[xi]  Certain bankruptcy courts have dismissed cases or rejected a plan’s confirmation because a debtor derived considerable revenue from the cultivation and sale of marijuana, reasoning the protections of the Bankruptcy Code should not be used to aid a debtor involved in a continuing federal crime.[xii]  Here, the Trustee argued the Amended Plan should not be confirmed because its provisions allow Cook to continue to receive income from the Green Haven lease, which constitutes illegal means prohibited by section 1129(a)(3).[xiii]  The United States Court of Appeals for the Ninth Circuit disagreed and concluded that such an interpretation is inconsistent with “subsection (a)(3)’s express focus on the manner of the plan’s proposal.”[xiv]  According to the Ninth Circuit, section 1129(a)(3) instructs courts to focus their inquiry only on the proposal of the plan, as opposed to the provisions of the plan.[xv]  The Ninth Circuit stated this interpretation was consistent with the absence of any reference to the substance of a plan in the statutory text, and consistent with persuasive authority, which states section 1129(a)(3) does not require a plan’s substance comply in all respects with all non-bankruptcy laws.[xvi]  Therefore, a court may, according to the Ninth Circuit, confirm a Chapter 11 plan as being properly proposed by lawful means even if the debtor receives income from a practice that would otherwise violate federal law, such as a lease to a marijuana business.[xvii]

The Garvin decision is part of a series of cases that have started to chip away at the U.S. Trustee’s position on marijuana, and expands marijuana industry participants’ access to bankruptcy courts.[xviii]  Although the decision is explicit that it is not meant to facilitate a debtor’s legal violation of the law, or insulate debtors from criminal prosecution, it does demonstrate that involvement with a marijuana business will not necessarily bar one’s access to bankruptcy courts.[xix]  In the right circumstances, a debtor involved with the marijuana industry may be able to access the courts, despite the hurdles imposed by existing federal laws.

[i] Garvin v. Cook Invs. NW, SPNWY, LLC, 922 F.3d 1031, 1036 (9th Cir. 2019).

[ii] Id. at 1033.

[iii] See 21 U.S.C. § 812 (2019).

[iv] Garvin, 922 F.3d at 1033 (citing 2­1 U.S.C. § 856(1)(a) (2003)).

[v] Id.

[vi] Id.

[vii] Id.

[viii] Id. at 1034.

[ix] Id.

[x] 11 U.S.C. § 1129(a)(3) (2016).

[xi] 7 Collier on Bankruptcy, ¶ 1129.02, at 1129.02-3 (16th 2019).

[xii] In re Rent-Rite Super Kegs West Ltd., 484 B.R. 799, 809 (Bankr. D. Colo. 2012) (utilizing the equitable principles of the “Clean Hands Doctrine” to determine § 1129(a)(3) excludes confirmation of the debtor’s plan because of the debtor’s engagement in an ongoing criminal violation); see also In re McGinnis, 453 B.R. 770, 772 (Bankr. D. Or. 2018) (holding the plan cannot be confirmed because it depends on the cultivation and sale of marijuana, which violate federal law).

[xiii] Brief for Appellant at 19, Garvin, 922 F.3d 1031 (No. 18-35119).

[xiv] Garvin, 922 F.3d at 1035 (quoting In re Irving Tanning Co., 496 B.R. 644, 660 (1st Cir. B.A.P. 2013)).

[xv] Id.; see also In re Gen. Dev. Corp., 135 B.R. 1002, 1007 (Bankr. S.D. Fla. 1991) (“Section 1129(a)(3) requires only that the plan's proposal, as opposed to the contents of the plan, be in good faith and in compliance with all nonbankruptcy laws.”). For example, a plan is proposed by means forbidden by law if the proponent bribed another party to take actions in order to secure confirmation of the plan. 7 Collier on Bankruptcy, ¶ 1129.02, at 1129.02-3(b)(ii) (16th 2019).

[xvi] Garvin, 922 F.3d at 1035 (citing In re Gen. Dev. Corp., 135 B.R. at 1007).

[xvii] See Jerrold L. Bregman, 9th Cir. Affirms Ch. 11 Plan Indirectly Supported by State-Legal Marijuana, 38 Am. Bankr. Inst. J., Aug. 2019 at 36, 36–37.

[xviii] Id. at 36; compare In re Rent-Rite Super Kegs West Ltd., 484 B.R. at 811 (dismissing a Chapter 11 case where the debtor knowingly leased a warehouse used for marijuana-cultivation), and In re Arenas, 514 B.R. 887 (Bankr. D. Colo. 2014), aff’d sub nom., Arenas v. U.S. Trustee (In re Arenas), 535 B.R. 845, 853­–54 (B.A.P. 10th Cir. 2015) (dismissing a Chapter 7 case reasoning it would be impossible for the trustee to administer the estate because utilizing the proceeds of marijuana assets would be a federal offense), with In re Johnson, 532 B.R. 53, 59 (Bankr. E.D. Mich. 2015) (holding a debtor could discontinue his marijuana operations and receive assistance from the court or continue his operations and have his case dismissed), and In re Arm Ventures LLC, 564 B.R. 77, 86–87 (Bankr. S.D. Fla. 2017) (allowing a debtor to propose a plan that did not depend on proceeds from the marijuana activity).

[xix] Garvin, 922 F.3d at 1036.