State Residency Requirements For Legal Marijuana Markets Are Unconstitutional

When it first legalized marijuana, Colorado was one of several states that restricted ownership of, or investment in, licensed marijuana businesses to in-state residents. The original Colorado marijuana legalization statute allowed an unlimited number of investors into a marijuana business if they could document being Colorado residents for at least one year, but any non-state resident owner would have to secure a somewhat arbitrary “finding of suitability” from regulators before they could invest in the legal marijuana industry. Similarly, upon legalization in Washington, that state required all legal marijuana business owners to have been residents of the state for at least six months. Alaska also required any owner of a legal marijuana business to be a current resident of the state.

At the time, proponents believed residency requirements would be necessary to ensure that state residents reaped the economic benefits of the newly legal marijuana industry.  Others argued that residency requirements would help deter the diversion of marijuana inventory to the black market while ignoring the already onerous combination of owner background check requirements, round-the-clock video surveillance, and live inventory tracking using radio-frequency identification tags aimed at prevent diversion to black markets.

Colorado, Maine, and Oregon are among the states that have abandoned residency requirements in recent years, while several other states continue to impose them. In reality, these residency requirements have limited the universe of potential investors who could be involved in the marijuana industry and capitalize on startup companies.  Marijuana business owners cannot apply for bank loans or small-business loans because of federal restrictions on providing financing to the industry.  As a result, marijuana businesses must rely almost exclusively on private equity markets to secure the funds needed. This can include significant funding to build out elaborate facilities needed to replicate ideal outdoor conditions, including sunlight, inside enclosed industrial warehouses.  Thus, expanding the universe of private investors who could provide funding to legal marijuana entrepreneurs would be tremendously helpful for many marijuana companies. 

As cannabis attorney Brian Vicente said of Colorado’s residency requirements, “It’s prevented money from flowing into Colorado to invest in our homegrown businesses.”

Most minority owners in marijuana companies are simply passive investors not actively involved in the management of the business.  They provide financing in exchange for a share of ownership in the business while recognizing that the industry bears both unique risks and unique opportunities for return on their investment.  Without access to these individuals, many marijuana entrepreneurs would have a difficult time getting their businesses off the ground.

The framers of the U.S. Constitution foresaw the opportunities that would arise from free economic exchange across the states.  That’s why they enshrined the Commerce Clause into the Constitution.  Federal courts have interpreted this clause as granting Congress the ability to prevent states from erecting arbitrary barriers to trade and effectively ensuring a free-trade zone across the entire United States.  According to federal jurisprudence, any state law that discriminates against interstate or international commerce is in violation of the Commerce Clause.

Making business investments across state lines is clearly a form of commerce and a number of legal disputes have arisen around state residency requirements within state-regulated marijuana markets.  Last month, a federal judge declared Missouri’s requirement that a majority of owners in any business licensed within the state’s medical marijuana program be Missouri residents was unconstitutional.  A Pennsylvania resident who wished to invest in a licensed medical marijuana company in Missouri had filed the suit, arguing,

“The real effect of the residency requirement has been and will continue to be to stifle Missouri’s medical marijuana program by severely restricting the flow of investment into the state.”

Advocates of residency requirements may point to a similar case in Oklahoma where another federal judge dismissed a claim by an Oregon company that wished to invest into the Oklahoma market, although that judge’s ruling didn’t touch on the underlying issue.  In that case, the judge simply claimed he could not provide relief to a company that wished to violate federal law by trafficking in marijuana and he declined to rule on the merits of the underlying argument.  When judges have ruled on the implications that the Commerce Clause has on state residency requirements, they have uniformly found those requirements unconstitutional.

This track record should prompt both lawmakers and regulators in states that have legalized marijuana but maintain these residency restrictions to reconsider them.  There should be a free market in the financing of state-legal marijuana ventures.

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