eNews April 18, 2019
In the News
April 18, 2019
New bipartisan legislation introduced on the Senate floor April 11 would allow cannabis businesses to have access to financial services on a federal level, outside of state or local banks where services are limited.
The Secure and Fair Enforcement (SAFE) Banking Act, introduced by Sens. Jeff Merkley (D-OR) and Cory Gardner (R-CO), will protect banks from “being punished by federal regulators for maintaining accounts for state-approved cannabis businesses,” according to a recent article by Forbes. With 10 states and Washington, D.C., fully legalizing cannabis and 33 states legalizing the substance on a medicinal level, cannabis businesses have opened, but many do not have access to basic financial services.
“The national banks are very much concerned about getting in trouble on the federal level on all of their regulations. They don’t want to get into money laundering or other potential violations under banking regulations for conducting any type of business with an illegal surveyor,” said Karen L. Hart, Esq., a partner with law firm Bell Nunnally in Dallas, Texas. Hart will be leading a session at NACM’s Credit Congress and Expo in Aurora, Colorado, next month, titled, “Cannabis Law: Everything You Wanted to Know but Were Afraid to Ask!”
When creditors work with customers in the cannabis industry—be it supplying materials for the building of a dispensary, the packaging for products, etc.—conducting the usual due diligence presents its challenges. Traditional methods of gathering information about the financial health of a customer, such as bank records from the last six to 12 months, are typically unavailable since storing money linked to cannabis sales in banks is illegal.
Typically, creditors do not even have access to a credit score and may not be able to run a credit check. Hart advised being more aggressive when digging into information about a new customer in the cannabis industry. Knowing the customer, digging into books and courthouse records, and getting more than one set of eyes on the available data can make for a smarter credit decision.
“That’s a disadvantage: [Creditors] aren’t necessarily able to run a credit check and know what you’re getting yourself into, so doing your due diligence is even more important,” Hart said. “If you’re going to engage with cannabis industry players, you’re going to need to make sure you’re protecting yourself as much as you can.”
The SAFE Banking Act currently has 20 cosponsors and was introduced just two weeks after similar legislation cleared the House Financial Services Committee, according to Forbes. The bill would still need to pass in the House before it moves forward into becoming a law.
“If this bill passes, it will be helpful for the cannabis industry because the businesses that are directly involved with the sale of cannabis products, they need to have a legal and stable way to bank,” Hart said. “[Right now] it’s a cost-benefit analysis on the risk you want to take and the potential reward.”
—Christie Citranglo, editorial associate
Karen L. Hart, Esq., a partner with law firm Bell Nunnally in Dallas, Texas, will be leading the session “Cannabis Law: Everything You Wanted to Know but Were Afraid to Ask!” at NACM’s Credit Congress and Expo in Aurora, Colorado, on Monday, May 20.
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Conducting business electronically is happening in the business credit community. Credit managers are evaluating customers through online credit checks, sending invoices directly into customer account portals and even making collections on behalf of virtual notices. Electronic payments, also known as e-payments, are continuing to find a place in credit management. Although there are proven benefits, credit departments are divided about whether e-payments are worth the investment.
Before the days of e-payments, payment by check was common for credit managers, some of whom still practice the paper payment method. At Kewaunee Scientific Corporation in Statesville, North Carolina, credit manager Danita Ward said the company has discussed the potential of e-payments but isn’t quite ready to embrace the trend. Her department collects payments via checks, wire transfers, ACH and, sometimes, credit card; however, credit card payments are completed over the phone rather than through an online payment portal.
“We even fine-tuned our policies for credit card payments. We worry about the security of our customers’ payment information,” Ward said. “Within the electronic medium, we feel like there’s a certain amount of vulnerability. We have to ask our customers to not send in credit card information, and we try to limit credit card exposure. A lot of the time, those charges can be disputed down the road, so I’d rather have a check because it’s more like a promissory note.”
When asked if Ward has seen any customer demand for e-payments, she said only smaller businesses have expressed interest. While the company uses online billing, Ward said Kewaunee Scientific doesn’t find e-payments to be a worthy investment in the long run just yet.
As Ward mentioned, security is a top concern for any company interested in e-payments, which is why Credit Manager Margaret Sarafiny said Hellenbrand takes every precaution when handling customers’ bank information. The Wisconsin-based company’s accounts receivable department processes e-payments from the company’s side as well as the customer’s, making the payment process much more efficient.
“The payments where we pull the payment is reserved primarily for our rental customers who have recurring payments due on a monthly or quarterly basis,” Sarafiny said. “The payments that get pushed to us come throughout the month, typically from our larger accounts. [E-payments] are cheaper than receiving checks (bank fees), and there are no more excuses from customers who blame the post office. Plus, the money is already in the bank, so no delay there, especially if we are short staffed or experience computer issues.”
So far, Hellenbrand hasn’t had any issues of fraud via e-payments because the company handles its banking information with care, only releasing it to existing customers. When the company pulls payment from a customer, information is gathered through a NACHA compliant company. Sarafiny’s department is also discouraged from emailing documents that contain account information, while limiting who has access to the information.
“The hard copy of the authorization from the customer—required for all customers, no exceptions—is in unmarked files in an unmarked file cabinet that is kept locked up,” she said. “We don’t encounter many problems with e-payments. Both our company and customers seem to be moving more toward e-payments.”
—Andrew Michaels, editorial associate
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Illinois is looking to follow the example led by California and Maryland, which are holding general contractors liable for unpaid wages of subcontractors. House Bill 2838 would amend the Illinois Wage Payment and Collection Act and take effect on contracts entered into on or after July 1. The bill was referred to the Senate’s Assignments Committee earlier this month after being passed by the House.
If signed into law, direct contractors would be liable for “any debt owed to a wage claimant or third party on the wage claimant's behalf, incurred by a subcontractor at any tier acting under, by, or for the direct contractor for the wage claimant's performance of labor included in the subject of the contract between the direct contractor and the owner,” according to the bill.
Ultimately, the contractor could be held responsible for paying more than once, should the subcontractor withhold payment. The legislation “… could inflate construction costs by forcing general contractors to pay construction workers twice,” said Mark Grant, National Federation of Independent Business state director for Illinois, in a release. Grant continued to call the bill “unfair to general contractors” if they have to pay for subcontractor workers. The Illinois Chapter of Associated Builders and Contractors opposed the proposed legislation as well.
“As a contractor who hired someone and paid them to do a job and then when they don’t pay their employees, how on Earth is that my responsibility?” said Rep. Tom Weber of Illinois’ 64th District, who is also a contractor, according to Illinois News Network. While considered unfair by some, it is a reality and no joke.
In July 2018, a San Diego-based general contractor reached a settlement agreement for nearly $1.2 million to pay for its subcontractor’s wage theft. "This case clearly demonstrates that general contractors who select contractors that don't play by the rules will pay a heavy price,” said California Labor Commissioner Julie A. Su in a Department of Industrial Relations release. “Under the law, they are responsible for the wage theft of their subcontractors.” A similar law went into effect Oct. 1, 2018, in Maryland, placing joint liability for unpaid subcontractor wages on general contractors.
According to Construction Dive, unpaid subcontractor wages are only one aspect impacted by the new and proposed laws. Surety companies could also be affected. “Because surety companies could be on the line for extra wages in these states, they may identify more risk when underwriting bonds and contractors could end up paying extra,” states the article from Construction Dive.
General contractors could require subcontractors to obtain a bond to protect against such instances, according to an article from law firm Baker Donelson. It’s possible the new law would have general contractors fighting on two fronts: one against having to pay for their subcontractors’ workers as well as if there is a mechanic’s lien on the owner’s property, states Watt, Tieder, Hoffar & Fitzgerald, in an article about Maryland’s newly enacted law.
The owner’s obligation to pay direct contractors timely under Illinois’ Prompt Payment Act will not be affected “except that if a subcontractor does not timely provide the information requested … the director contractor may withhold as ‘disputed’ all sums owed until that information is provided,” according to the bill.
—Michael Miller, managing editor
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Collateral descriptions in financing statements are often an afterthought for secured creditors. They are frequently prepared in the simplest way possible, sometimes due to carelessness, sometimes because the debtor wishes to maintain its privacy by not disclosing specific pieces of collateral or investments, and sometimes due to administrative simplicity to minimize the cost and hassle of future amendments to financing statements in deals where the debtor regularly exchanges collateral of the same type. For years, secured creditors benefited from cases in which courts found the Uniform Commercial Code does not require collateral descriptions in financing statements to be perfect, so long as the financing statements give enough notice as to the approximate nature of the collateral to cause subsequent creditors to make further inquiry with the debtor. Two recent decisions suggest that some courts may be taking a stricter approach with collateral descriptions and possibly limiting the further inquiry doctrine, serving as a warning to secured creditors to take care to describe their collateral with as much specificity as possible to ensure that a bankruptcy court will not demote a secured creditor to unsecured status, or allow another creditor to jump ahead of the secured creditor in priority.
In the case of First Midwest Bank v. Reinbold (In re 180 Equip., LLC), the secured creditor filed a financing statement describing its collateral as “all collateral described in the First Amended and Restated Security Agreement dated March 9, 2015, between Debtor and Secured Party.” The bank did not attach a copy of the security agreement to the financing statement, and the debtor ultimately filed for bankruptcy. The court ultimately determined that the identity of the collateral was not objectively determinable from the description in the financing statement, and that the shorthand incorporation by reference of the security agreement, without any additional reference to collateral type in the financing statement, was insufficient to describe the collateral, and did not put third parties on notice as to the specific items of collateral themselves, or of the kinds of types of property subject to the security interest. Consequently, the bankruptcy trustee was able to avoid the bank’s lien on the debtor’s property.
Around the time the First Midwest case was decided, a different court further limited the “further inquiry” doctrine in a case arising from a Puerto Rico bankruptcy. In In re Fin. Oversight and Mgmt. Bd. for Puerto Rico, the court set aside the security interest of the secured creditors where subsequent creditors would be required to extend their searches beyond the local filing clerk’s office. In the Puerto Rico case, bondholders filed a financing statement against a debtor describing the collateral as “the pledged property described in the Security Agreement attached as Exhibit A hereto and by this reference made part hereof.” The 2008 Financing Statement was attached to the security agreement, but the security agreement did not define or describe the “pledged property,” other than noting such property was described in a certain pension funding bond resolution. The resolution was publicly available electronically on the debtor’s website, among other locations, but neither the 2008 Financing Statement nor the security agreement noted the resolution’s location. The First Circuit held that because the collateral was described by reference in a document located outside the UCC filing office, without listing the document’s location in the 2008 Financing Statement, an interested party would not have received notice of the collateral at issue. The court further held that “requiring interested parties to contact debtors at their own expense about encumbered collateral, with no guarantee of a timely or accurate answer, would run counter to the notice purpose of the UCC.”
Secured creditors should review their security agreements and financing statements carefully to ensure that the collateral is described with sufficient detail. As a best practice, if a secured creditor wants certainty that its financing statement collateral description will survive the scrutiny of a bankruptcy court or challenge by another creditor, they should either take care to describe the collateral as thoroughly as they do in their security agreement, or if they have a borrower who is focused on maintaining his or its privacy, request that the debtor transfer his or its property to a newly formed special purpose limited liability company where the creditor can file a financing statement describing the collateral as “all assets of the debtor.”
Reprinted with permission.
Peter Beardsley is senior counsel in the Finance Department at Loeb & Loeb LLP in New York City. He regularly represents financial institutions, trade creditors and borrowers in all types of secured and unsecured credit facilities, including bilateral, club and syndicated credit facilities.
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