Ties to marijuana businesses are disqualifying bankruptcy filers, including City Councilwoman Karen Stratton

Spokane City Councilwoman Karen Stratton’s bankruptcy case with her husband was removed from federal bankruptcy court earlier this summer over concerns raised about their ties to a marijuana business.

The couple’s decision to drop their filing appears tied to a U.S. Justice Department crackdown on state-sanctioned marijuana firms seeking bankruptcy protection. Jim Perkins, a federal attorney with the U.S. Trustee Program, moved to dismiss Stratton and Chris Wright’s case in April, noting that they’d listed a 50% ownership in a family-run marijuana farm near Spangle among their assets that would need to be liquidated to cover debts totaling a little more than $1 million.

“The company is not only acting illegally, but the debtors, as the owners and managers of that entity, I think are very clearly violating federal law,” Perkins told Judge Frederick Corbit of the U.S. Bankruptcy Court in Eastern Washington at a hearing in May seeking to dismiss the case.

Wright and Stratton argued their debts weren’t tied to the marijuana farm, which has yet to post a profit during its five years of existence in Washington state’s regulated cannabis market.

Instead, they said, the debts came from legal malpractice claims brought against Wright’s single-person law practice, stemming from cases tied to real estate sales that did not involve the marijuana business. They also argued that the state-issued marijuana license was of little value to a court-appointed trustee who would be required to sell it to pay off creditors, despite initially listing its worth at $55,000 in their bankruptcy filing.

Both Stratton and Wright said in interviews that they didn’t know, when they filed, the lengths to which the Justice Department has been going to keep those operating in marijuana markets deemed legal by dozens of states across the United States from seeking debt relief in federal courtrooms.

“I wanted to fight it,” Stratton said. “It sets a precedent for future growers. I’m feisty.”

But the couple chose not to challenge the government’s request to dismiss the case, and Corbit closed it on July 11.

The resolution comes in the midst of Stratton’s campaign to retain her seat on the Spokane City Council. Her opponent, Andy Rathbun, has signaled the bankruptcy case will be a talking point as he attempts to make up a 24-percentage-point deficit to the incumbent in the August primary.

Perkins, the federal attorney representing the Justice Department, said he wasn’t authorized to speak to the media about the extent of his office’s involvement in objecting to bankruptcy cases involving business interests with ties to marijuana. Instead, he directed questions to the Justice Department in Washington, D.C.

Enforcement data, public statements by Perkins’ boss, Director of the U.S. Trustee Program Clifford J. White, and reporting this summer by the Wall Street Journal suggest the Justice Department is keenly interested in keeping bankruptcy cases like Stratton and Wright’s out of federal courtrooms.

“In recent months, we have noticed an increase in the number of bankruptcy cases involving marijuana assets,” White wrote in an April 2017 directive to private attorneys throughout the country charged with serving as overseers of assets when a person or entity files for bankruptcy. “This is to reiterate and emphasize the importance of prompt notification to your United States Trustee whenever you uncover a marijuana asset in a case assigned to you.”

The federal government has offered two arguments for why those cases should be thrown out of bankruptcy court, and judges even in states such as Colorado, with permissive state laws on cannabis, have agreed to do so. The first is that the trustee, who in a Chapter 7 bankruptcy case is appointed to sell off assets in an effort to pay off debts, would be forced to break federal law by attempting to liquidate holdings tied to the drug.

“Until I start picking up the phone, and calling some of the contacts I have … the moment I do that I’m concerned that I’m violating the federal Controlled Substances Act,” Kevin O’Rourke, the appointed trustee in Stratton and Wright’s case, told Corbit in the hearing in May.

O’Rourke did not respond to a request for additional comment on the case last week.

The courts have ruled that those assets can have merely tangential ties to marijuana revenue yet still raise enough concern to toss a bankruptcy filing; that could include a case involving a landlord who receives just a portion of his income from leasing property to a pot business.

The second concern from the federal government is that if a judge exempts the asset from control of the trustee, the bankruptcy filer is allowed to continue collecting revenue from a business that remains illegal under federal law.

Those concerns have prompted the Justice Department to object to 88 marijuana-related bankruptcy cases since 2010, according to data the Trustee Program has compiled. Five of those cases have occurred in Eastern Washington, all since 2014, when the sale of recreational marijuana became legal in the state.

Stratton and Wright said that it appeared the federal government was taking a particular interest in their case, with Wright describing the U.S. Trustee’s treatment of the case as “especially aggressive.”

“It was very evident we were going to be the example,” Stratton said. “That, to me, was so clear.”

The issue is likely to rear its head in Stratton’s bid for a second elected term on the City Council. Jim Hedemark, who’s listed as a political consultant on financial filings by Stratton’s opponent in the race, Rathbun, and as receiving $3,000 a month from Rathbun’s campaign in consulting fees, released a statement arguing Stratton should “let people in and around the pot industry know that they likely are forfeiting valuable bankruptcy protections.”

Rathbun said he, too, believed it was important for voters to know how the bankruptcy case had been resolved, calling it “an unfortunate turn of events” in an interview. He said his political consultant had raised the issue because Rathbun “didn’t want it just coming from me.”

“I don’t want to be beating up on her, but on the one hand I think that people need to know,” Rathbun said.

Stratton said she’s willing to discuss the case with anyone who asks her about it, but she doesn’t believe it’s becoming a campaign issue.

“I have not had one person ask me about it at the doors,” Stratton said.

Still, Rathbun said the court’s rulings should give pause to those who accept payments from Stratton’s campaign. The incumbent councilwoman has accepted $4,000 in contributions from local marijuana businesses and people tied to them, according to Public Disclosure Commission records.

“The thought would follow, anybody that’s getting payment from her campaign could also be tied to the marijuana industry,” said Rathbun, who has largely self-funded his campaign.

Wright said he wouldn’t comment on the couple’s next steps. In May, Corbit suggested they would be able to either sell or gift their interest in the marijuana license and then be able to re-file for bankruptcy protection, without the possibility of the government objecting about the financial ties to a federally illegal business.

Relief in the form of federal legislation for cannabis businesses facing mounting debts is also unlikely to pass anytime soon. A bill that would take marijuana off the list of federally controlled substances has the support of high-ranking Democrats in the U.S. House of Representatives, but faces a tough path in the Senate. Industry groups, such as the National Cannabis Industry Association, include the extension of bankruptcy protections among their reasons for supporting a complete decriminalization of marijuana at the federal level.

Other legislation on Capitol Hill generating discussion in the Senate would give those in the industry access to banking, but would do nothing to extend bankruptcy protections for individuals or businesses. Without access to traditional lines of credit, many marijuana business owners in Washington and elsewhere have to rely on personal savings to finance their ventures, which can make the lack of bankruptcy protections even more devastating for those in the industry.

The developments in his own bankruptcy case have clearly demonstrated to Wright that people with any ties to cannabis businesses aren’t welcome in federal courts.

“We might have been scared out of doing it, had we known,” Wright said.