By Michael McAndrew, Esq. and Michael Roundy, Esq.
The courts have widely established that cannabis businesses, even if compliant with state cannabis laws, are not protected by federal bankruptcy laws because they operate in a federally illegal industry. But can an employee of a cannabis business who has no ownership interest in that business file for bankruptcy individually under Chapter 13 of the Bankruptcy Code?
This question was answered with a resounding ‘no’ by the U.S. Bankruptcy Court for the District of Massachusetts in its recent decision in In re Blumsack, when the court dismissed such an employee’s bankruptcy petition in its entirety.
The would-be debtor, Scott Blumsack, had worked in the Massachusetts cannabis industry since 2021. At the time of the decision, he was the general manager of a cannabis business that manufactured, retailed, and wholesaled cannabis and cannabis products legally under Massachusetts law. In this role, Blumsack supervised employees, set up the retail operation, managed all aspects of the retail operation, and regularly acted as a ‘budtender,’ a role in which he regularly distributed cannabis to his employer’s customers. He was appropriately licensed under Massachusetts law to dispense cannabis, but had no ownership interest in his employer’s business.
In 2021, Blumsack filed a voluntary petition for reorganization under Chapter 13 of the Bankruptcy Code and submitted a plan of reorganization in which he proposed making payments to creditors out of the salary that he earned working in his employer’s cannabis operation. In the alternative, he proposed a plan for reorganization that would be funded out of his wife’s retirement funds, which arose from her wages unconnected to the cannabis industry.
In response to Blumsack’s proposed plans, the bankruptcy trustee moved to dismiss his bankruptcy petition, arguing that the proposed plans of reorganization could not be confirmed because the debtor’s activities in connection with his employment violate federal law. By working for a cannabis retailer, Blumsack had violated, and continued to violate, federal law by distributing cannabis and conspiring with his employer to violate federal law. The trustee argued that confirmation of the debtor’s plan would necessarily require the trustee to administer proceeds derived from such illegal activity.
Blumsack countered that, if the court adopted the trustee’s reasoning, any employee of a marijuana-related business (such as web designers and warehouse workers serving companies in the industry) could also be deprived of bankruptcy protections because of the cannabis industry’s wide-spectrum contributions to the state’s economy.
The court disagreed. Describing the case as one of “apparent first impression” because no on-point decisions had been found, the court noted that, for approval of a Chapter 13 plan of reorganization, the plan is required by statute to be submitted “in good faith and not by any means forbidden by law.” If a plan is not submitted in good faith, it may be dismissed “for cause.” Although neither ‘good faith’ nor ‘cause’ are defined in the bankruptcy code, both terms have been interpreted in case law throughout the country.
The Bankruptcy Court in this case held that, because Blumsack’s proposed plan of reorganization was funded by wages that were derived from participation in a cannabis retail operation and he continued to engage in the cannabis industry — federally illegal activity — while his bankruptcy case was pending, the plan was not proposed in good faith and was proposed by a means forbidden by law. Specifically, the court found that Blumsack’s job duties “require that he act in violation of federal criminal statutes.” Because of this, his plan would require the Chapter 13 trustee to “knowingly administer wages derived from an active participant in a criminal enterprise.” As such, the court could not find, under an objective standard, that the petition had been filed in good faith.
As a result, the Bankruptcy Court dismissed Blumsack’s petition for cause, noting that a lack of good faith is well-established grounds for dismissal for cause. The court also dismissed Blumsack’s alternative proposed plan for reorganization, despite the fact that it was to be funded by money not derived from the cannabis industry, because even under such a plan, Blumsack “objectively lacks good faith” by seeking the benefits and protections of federal bankruptcy law while simultaneously continuing to earn income from conduct that violates federal criminal law. In short, his plan, however funded, was tainted by his continued federally illegal activity.
While Blumsack’s counsel warned of a slippery slope, the court was unpersuaded and stated that it “must decide only the case it has before it.” The Bankruptcy Court made clear that its decision was cabined to the particular facts of this case, and that questions of good faith require a case-by-case analysis. Nonetheless, it is likely that other courts may take their cues from this decision to prevent others employed by cannabis companies or by companies serving the cannabis industry from filing for Chapter 13 bankruptcy.
How far will the reasoning of the court extend? To employees who do not directly participate in distributing cannabis products? To service providers who generate their own income by serving cannabis clients and thereby assisting them with their federally illegal activities? The Bankruptcy Court’s decision provides no guidance on these issues.
Absent congressional decriminalization of cannabis, issues at the intersection of state and federal laws affecting the cannabis industry will continue to be addressed on an ad hoc, case-by-case basis by federal regulatory agencies, prosecutors, and courts. For now, we can add individual bankruptcy protections to the growing list of complex issues affecting those working in, or for, the cannabis industry.
Michael McAndrew is an associate, and Michael Roundy a partner, at the Springfield-based law firm Bulkley Richardson.