Nevada’s legal cannabis industry is, in many ways, one of its most high-tech: Products are tracked from seed to sale. Each lot is tested in a lab. Regulations are scrupulous.
But federal prohibition means banking is decidedly low tech: An expensive account with a bank that’s far from a household name, if you’re lucky. Bags of cash, if you’re not.
The challenges of moving marijuana money when few institutions will bank the industry is why Nevada is in the process of trying to develop a 'closed-loop' electronic money transfer system similar to Venmo or prepaid debit cards to serve cannabis businesses.
State officials say they are evaluating four bids received this month for carrying out the pilot project, with the goal of having the program up and running by July 1. The state is offering no money to the winner(s) — just an opportunity to have their project blessed by the state.
Several states have attempted such a feat, but if successful, Nevada would be the first state to apply closed-loop technology to legal marijuana markets that are unable to freely participate in banking because marijuana is a federally illegal controlled substance and banking is intimately tied to the federal government.
It would also fulfill a campaign promise of Democratic Treasurer Zach Conine, whose office’s other duties include college savings programs and state investments. Conine has said that as part of a bid to make his office more relevant, he wants to try taking a stab at an issue that has for years bedeviled states with legal marijuana markets.
“Having a regulatory structure that … basically treats employees in some of these facilities as second-class citizens is just unacceptable,” he said in an interview. “And if the federal government's not going to fix the problem, then we're going to try to.”
The project isn’t without its detractors. Although the bill authorizing the experiment passed unanimously in the Legislature last year, some experts in the field say states are woefully unequipped to get at the heart of the problem. Similar proposals in states such as Ohio and Colorado have not been successful.
“I think it's important for the first states to understand there's very little they can do from a state perspective to affect this in any way,” said Tyler Beuerlein, chief revenue officer for the payment processing company Hypur, which serves cannabis clients. “So many of these states and municipalities have spent six figures on feasibility studies. All come back to the same conclusion: they will never work.”
Current state of affairs
In the five years since marijuana sales became legal in Nevada, cannabis companies have found increasingly creative workarounds to reduce their dependence on cash.
Some cannabis businesses have accounts with credit unions or actual banks. They may also use third parties to process payroll or operate with nondescript business entity names to avoid banks identifying them as marijuana companies and shutting them down.
The federal government technically allows banks to serve state-legal cannabis clients, but few banks take the risk. That’s because of the burden of complying with laws that require extensive reporting to the federal government about potentially illegal activity, and there's a risk of losing federal deposit insurance if regulators decide a bank is engaging in "unsafe or unsound practices."
Institutions that serve cannabis companies put their marijuana clients through intensive vetting so they can verify the business is complying with state laws, are selective about whom they serve, and charge steep fees for the hassle that can put their services out of reach for smaller operators.
“There are solutions out there for people who have enough money to pay for them,” Conine said.
The situation is trickier on the consumer side, which still largely runs on cash. Some dispensaries have ATMs at the store so customers can withdraw cash to make purchases, and some tech companies have come up with electronic payment systems — with mixed results.
Linx, one company that offered gift card-style debit services, is being sued by at least two Nevada marijuana companies who say they are owed upwards of $2 million. Linx’s payment processing company terminated its relationship with Linx after alleging misconduct that Linx denies.
“There are certainly businesses that are using different workarounds to avoid taking in cash at point of purchase,” Conine said. “I wouldn't comment on whether or not those are good ideas or legal or anything else. But somewhere along the way they're probably violating a merchant services agreement or two.”
The unique challenges facing businesses that still take in large amounts of cash came up during a legislative hearing last spring for the closed-loop system bill.
Law enforcement officers testified that a marijuana business in Northern Nevada was at one point rammed by a car in an apparent attempt to steal cash or cannabis. The City of Reno’s lobbyist said Reno adds extra security on its quarterly marijuana tax payment day — the average payment is $80,000. And Conine said the Department of Taxation now handles five times the cash that it used to, increasing the need for armored truck services.
Democratic Assemblywoman Daniele Monroe-Moreno was the sponsor of the bill that requires the creation of a closed loop system capable of allowing marijuana businesses to pay state and local taxes in a “safe, secure and convenient” manner. She framed the proposal as a question of safety unconnected to people’s personal feelings about marijuana.
“This, as I see it, is a public safety issue,” she said. “It does not make sense to have people walking around with trash bags of cash to pay their taxes and payroll.”
Conine said that once Nevada legalized marijuana sales, it became the state’s responsibility to ensure banking is straightforward.
“It's been on us to figure out a way to make it safe,” Conine said. “Not to look the other way on some sort of workaround, not to hope that people can be clever enough to not get in trouble, but to find a real solution for it. And that's what we're doing.”
Can closed-loop solve the problem?
Closed-loop systems involve a person transferring money into a system — a gift card or a metro card, for example — and spending money with participating entities. They’re in contrast to “open loop systems” such as credit and debit cards that connect directly with the “payment system,” or the larger financial world.
“We know that the application has worked in other non-cannabis businesses,” Conine said. “Our intention is to just reapply that kind of technology to solve our unique issues.”
But critics like Beuerlein say closed-loops — which park money in a financial cul-de-sac and allow transfers only among participants — is not addressing the crux of the issue facing the marijuana industry: that payments must “originate” somewhere and can’t be completely divorced from the larger financial world.
“This is a banking problem, not a payments problem,” he said. “And what I mean by that is if a bank or credit union has not built out the regulatory compliance capability to bank the industry, the payment side will never work because payments originate and are settled through financial institutions.”
Hypur doesn’t consider itself a closed-loop system because it doesn’t store monetary value in its computer system. Rather, Beuerlein describes it as a regulatory compliance company that facilitates direct transfers from one bank to another and automates procedures that banks must go through when handling any marijuana transaction.
“There's a cost to it, of course. But again, if you look at the other highly regulated industries that are perfectly legal, there's a cost to them as well because it takes a special type of institution and the special programs to be able to bank this,” Beuerlein said.
In Colorado, the Colorado Banking Association opposed a 2018 bill to create a closed-loop payment system. Among the group’s issues: the state would essentially be providing banking services, thus assuming major liabilities, and would need to build out the staffing to ensure compliance and investigate potential account holders to determine their true identity.
What’s more, a closed-loop system might work for cannabis businesses paying other cannabis businesses, but what about transactions that need to be conducted outside the “loop,” such as paying NV Energy for the electric bill? The system could find itself being all but useless unless a critical mass of businesses and other vendors who need to be paid, including utility companies and governments owed taxes, sign on.
If not, critics say, money will have to be pulled out of the system to pay those bills, and it’s still in cash and not in a bank. Beyond that, the closed loop system doesn’t address the need for services from banks such as granting a loan, and the company operating the system would likely be charging significant fees for those who use the service.
“It’s not a viable solution to the challenge of banks being able to serve cannabis businesses,” said banking association spokeswoman Amanda Averch. “A lot of these services, like a state owned bank, would just serve as a big vault.”
A congressional solution
For Colorado bankers, “we think that the only real solution to this problem is an act of Congress,” Averch said.
There have been promising signs on Capitol Hill, including the when the House passed the SAFE Banking Act in September by a vote of 321-103. The measure prevents federal banking regulators from terminating the deposit insurance of a bank that has legitimate cannabis clients, and from taking adverse action on a loan taken out by a person involved in the industry.
The Nevada Bankers Association said enacting the legislation would be “a good first step” but wouldn’t necessarily throw open all bank doors to cannabis businesses.
“Removing the state-federal conflict does not indicate every bank will elect to add cannabis business to their direct clientele. Individual banks’ legal counsel would carefully analyze new laws before making their determination,” the association said in a statement. “The removal of the conflict will allow banks to decide if the industry fits their business model and risk profile and alleviate the concerns over the provision of services to businesses that have indirect relationships to the industry.”
The wide margin of passage for the SAFE Banking Act in the House “sends a message to the Senate, but the Senate isn't listening right now,” Don Childears, president and CEO of the Colorado Bankers Association, said at the cannabis trade show MJ Biz Con in December. The bill has yet to come up in the Senate, although Childears predicts more action might come in 2021 or 2022.
Nevada Rep. Dina Titus is vocal on the issue and is critical about the lack of action in the other chamber.
“Nevada is proof that the era of marijuana prohibition is over. It’s time for Senator McConnell to start acting like it,” Titus said in a statement. “The SAFE Banking Act would allow legitimate marijuana businesses to access financial services just like any other business. It’s just common sense. I guess that explains why it’s been held up in the Senate.”
State treasurer’s role
The treasurer said some prior meetings of stakeholders and potential vendors about his closed-loop idea were better-attended than he expected. The winner(s) will not receive any money from the state — and may have to pay some of the state’s administrative expenses — but will be selected by Nevada’s purchasing department through normal state channels.
“The state is not at risk from a dollar and cents standpoint, we're putting our name on something,” he said. “So we want to make sure that we do it right.”
Conine also believes the fact the state is not trying to make money off participants will help open doors that might not be available to other startups.
“We sort of, by definition as the state, have only an interest in the citizens of the state and not a fiscal interest,” Conine said. “And because of that, we're able to bring partners together to try and find a solution in a way that the private sector doesn't.”
The problem might be resolved sooner than the closed-loop system is widely adopted, though. The federal government recently gave banks the blessing to work with hemp businesses, perhaps presaging an opening of the marijuana market, and other workarounds have relieved the pressures of only working with cash.
“There's nothing that would make the treasurer's office in the state of Nevada happier than the federal government dealing with this on a federal level ... Nothing but the time spent on it would be wasted,” Conine said. “And what a great solution that would be. I don't need to be the one that solves this problem. This problem needs to be solved.”