Are More Successful Residency Challenges Coming for Cannabis?

15 Oct Are More Successful Residency Challenges Coming for Cannabis?

Seen as a protectionist, cottage measure to some stakeholders, residency requirements for cannabis licensure have been a staple in the industry since Washington and Colorado legalized cannabis statewide back in 2012. When I lived in Seattle, the local industry was mostly stoked then that “big money” and out-of-state interests couldn’t easily crash the party that was fledging legalization in the Evergreen State.

Washington is pretty notorious for its 6-month residency requirement for owners of cannabis businesses (although it did away with the same requirement for financiers mostly because cannabis businesses were really struggling to source capital from friends and family and because financial institutions are loathe to participate due to federal illegality). A couple of times now, litigants have sued and lost in Washington over striking down the residency requirement (see here for a recent one)–we’ve even questioned the legality of the requirement before. However, the tide just majorly turned in the State of Missouri, and I have to question if more of these lawsuits are coming, and if the success around them is now turning against the locals.

Cue the federal court case of Mark Toigo v. the Missouri Department of Health and Senior Services (“DHSS”). Toigo is a cannabis business investor and a resident of Pennsylvania who sued DHSS for  declaratory and injunctive relief against the enforcement of the state’s residency requirement. The Missouri Medical Marijuana Program launched in 2018 (via an amendment to the State’s Constitution), and, per the complaint in the case, under Article XIV (and 19 C.S.R. §30-95 , et seq.), “non-residents are prohibited both from receiving medical use marijuana licenses and from owning a majority of any Missouri company that holds a medical marijuana license”. Specifically, the law requires that Missouri cannabis businesses be “. . .  majority owned by natural persons who have been citizens of the state of Missouri for at least one year prior to the application for such license or certification.”  And DHSS’s regulations implement and support the residency restriction. The effect then is that the law openly discriminates against non-residents of Missouri as majority owners of these businesses.

The main allegation of the complaint is that Missouri law violates the U.S. Constitution where:

The Residency Requirement violates the dormant Commerce Clause of the United States Constitution by explicitly and purposefully favoring Missouri residents over non-residents. As legal sales of medical marijuana are just beginning in Missouri, the Court should enjoin the Defendants from enforcing the Residency Requirement. This is the only way to ensure that residents and non-residents alike, including Plaintiff, are able to participate in Missouri’s medical marijuana industry.

Another key allegation in the complaint is a sentiment that licensees in states with residency requirements have touted for years:

. . . the Residency Requirement will also harm businesses owned by Missouri residents who plan to participate in the program by arbitrarily limiting the universe of available investors and business partners available to these businesses. This impacts larger businesses but also smaller Missouri businesses that are looking for financial assistance from family members and acquaintances residing beyond Missouri’s borders.

Having practiced in a state with a hard and fast residency requirement, I can tell you firsthand that mandating residency absolutely limits the pool of investors, for better or worse, that could otherwise come in and support these businesses that have immensely cost-intensive, constant compliance requirements that are lucrative to the success of these state democratic experiments. At the same time, residency restrictions can keep the industry small and somewhat more manageable (regarding societal harm) from a public policy perspective.

Back in March, Toigo moved for a preliminary injunction to enjoin DHHS from enforcing the residency requirement. In his brief, Toigo immediately noted that “The United States Constitution guarantees citizens’ right to engage in interstate commerce free from discriminatory and protectionist state regulations. This fundamental rule stems from the Framers’ concern that, left unchecked, states would enact commercial regulations favoring their own residents at the expense of non-residents. Indeed, the United States Supreme Court has time and again invalidated state laws that deprive citizens of their right to access the markets of other states on equal terms. In setting aside discriminatory state commercial regulations, the Court primarily relied on the dormant Commerce Clause.”

Toigo argued that the residency requirement was flat-out non-resident discrimination with no tailoring at all to accomplish any kind of legitimate government purpose. DHHS essentially fired back that the residency requirement was narrowly tailored to accomplish its legitimate interest in being able to more aptly background check residents (rather than having to background check non-residents) regarding fitness to run these businesses, and to ensure that there wouldn’t be any diversion of cannabis over state lines due to out of state participation in the program.

The court found Toigo’s arguments to be persuasive and it granted the preliminary injunction in June of this year, finding that:

It is not necessary to look beyond the face of the State’s durational residency requirement to determine whether it is discriminatory. A law that prevents persons from becoming majority shareholders in Missouri businesses that engage in the cultivation, manufacture, and dispensation of medical marijuana products unless they have lived in Missouri for one year and do not reside in any other state is facially discriminatory against out-of-state economic interests. A law that prevents out-of-state persons from applying for medical marijuana licenses or purchasing them from others is also facially discriminatory against out-of-state economic interests.

On the back of the dormant Commerce Clause, the Court ultimately concluded that Missouri’s durational residency requirement was not narrowly tailored to advance its legitimate interest in general crime prevention.

The bench trial on the permanent injunction sought by Toigo was heard by the court on October 7th. It took the federal judge a total of less than 10 minutes to grant the permanent injunction after opening statements. In turn, Missouri’s residency requirement is officially no more.

Stakeholders in states with residency requirements should take serious note of the Toigo case (whether they’re pro or anti residency requirement). It’s fascinating from a legal perspective that a federal court didn’t hesitate (again) to apply the dormant Commerce Clause to cannabis commercial activity despite its federal illegality, and it’s even more interesting to see the dominoes fall around these patently protectionist/discriminatory measures, which means the industry will likely grow at increased leaps and bounds now that capital investment, domestic or foreign, isn’t stymied by state borders (at least in Missouri).