Real Estate & Land Use

The City of Bellevue’s (WA) first-in-time rule to decide between competing applications for retail cannabis establishments within 1,000 feet of each other created a confusing process when first implemented in 2014 and now has led to the City’s exposure for tortious interference with business expectancy damages by a license applicant who lost out. In a March 4, 2019 published decision in Greensun Group, LLC v. City of Bellevue, Division One of the Washington Court of Appeals ruled that a trial is warranted on Greensun’s claim that the City’s denial of a recreational cannabis license improperly interfered with Greensun’s plan to open a store in downtown Bellevue.

Few would argue that uncertainty and confusion accompanied the development and rollouts of recreational cannabis regulations by the State Liquor and Cannabis Board (LCB) and local jurisdictions. The licensing process in Bellevue probably was more fraught than others due to the large number of qualified applicants, the limited number of licenses available, and restrictions on areas for operation. At issue in Greensun was which applicant got their LCB license first because the City would use that to preclude licenses for other retail cannabis shops that might be located within 1,000 feet of that applicant.

Greensun planned to open a recreational cannabis shop in downtown Bellevue at 106th and Main Street, and started the city permit process 18 months earlier when it sought to open a medical marijuana shop there. Undaunted by the City’s initial denial of the medical marijuana license, Greensun extended its lease, made improvements to the property, and applied to the LCB for a recreational cannabis license. Things got complicated for everyone after the LCB listed Greensun and 18 other applicants as qualified for Bellevue, but only allocated four retail licenses to the city. LCB held a lottery to sort out who got the licenses. Greensun initially was fifth in the lottery, but expected one of the four selectees to be disqualified due to application errors.

The City, meanwhile, had adopted an ordinance that extended interim zoning controls for retail cannabis shops and imposed the 1,000-foot separation rule. The City said if two or more applicants would be located within 1,000 feet of each other, it would apply a “first-in-time” rule to the entity that LCB licensed first. Greensun applied for a business license expecting the disqualification of one of the other lottery selectees. The City, however, denied the application because Greensun was not one of the four lottery winners.

Another of the lottery selectees submitted its application for a license to the City for a location in the same block as Greensun’s anticipated store. That applicant received LCB’s conditional approval on July 7, which was part of a batch of LCB license approvals issued that day. Greensun was not part of that initial batch of approvals, but later the same day received a conditional approval letter after the disqualification of an applicant.

Late in the afternoon of July 7, the City advised that Greensun was not “first-in-time” and could not open a retail store at the planned location in downtown Bellevue. After the LCB said it had no way to determine which applicant it had licensed first, the City asked the two competing licensees for information about which one LCB licensed first. Following submissions by both applicants, the City informed Greensun that it was not first in time. Greensun sued the City for violation of due process and the privileges and immunities clause of the Washington State Constitution, seeking declaratory and injunctive relief, claiming it would have been able to open its retail store in less than two weeks after LCB’s issuance of licenses if the City had issued the requested business license.

The trial court granted summary judgment dismissing Greensun’s claims on the grounds the City’s actions were not arbitrary and capricious. In June 2016, Division One reversed the trial court and invalidated the first-in-time rule. Greensun amended its complaint to add a claim for money damages caused by the City’s interference with its business expectancies. On cross motions for summary judgment, the trial court granted the City’s and denied Greensun’s. The March 4, 2019 decision by Division One reversed the City’s summary judgment.

The court’s ruling reviewed the five elements of tortious interference with a business expectancy and found that Greensun had alleged facts establishing all five elements. The court ruled Greensun had a valid business expectancy to open a retail cannabis store; the City knew of that expectancy; it intentionally interfered; by improper means through the regulatory course changes and definitions in the midst of the process; and caused resultant damage to Greensun, for example, the other applicant’s store in Bellevue generated $300,000 gross sales in its first month.

The court also said there were issues of fact regarding the City’s defenses of good faith interpretation of the zoning ordinance because the use of the timing of LCB licensing to determine “first-in-time” was questionable and changing. In fact, the other applicant complained to the City about its “illogical first-in-time rule.” Nor were the City’s actions necessarily protected by its discretionary immunity because a city is not protected from liability for arbitrary and capricious acts. Accordingly, the court of appeals remanded the case for trial.

Division One’s decision may not be the last word on this case. Because of the potential to open cities to greater liability for zoning and licensing decisions, the City certainly can ask the State Supreme Court to take the case, and the City likely would have strong support from other cities and local governments. If the Supreme Court declines to take the case, it would go to trial and, whatever the outcome, probably be subject to a third appeal. In the meantime, Greensun is a cautionary tale about what can happen with the implementation of a new and complicated regulatory scheme and raises the stakes for cities in all types of zoning and licensing decisions, not just those related to cannabis.

The federal tax reform law that passed in December 2017 included a new incentive, the qualified opportunity zone (QOZ) regime.  The purpose of this tax incentive is to unlock and redirect trillions (yes, trillions) of capital gains into investments into new businesses, and substantial improvements to existing businesses, so long as those businesses are located in a QOZ (generally, designated  low income census tracts from the 2010 census).  The tax world has been abuzz about this enormous opportunity since the IRS issued taxpayer-friendly proposed regulations in late October.  Our summary of the QOZ regime is here, but the basic mechanics are simple: when taxpayers sell appreciated property (e.g., stocks or real estate) they can “roll” the gain into a new investment, with tax benefits for both the original “rolled” gain (deferral and up to 15 percent gain elimination) and the new investment (no tax on future gain).

In our summary, we highlighted the ability to secure QOZ benefits in urban areas, some of which are already attracting investments. QOZ benefits also are available for cannabis-business investments.  There are many QOZs in rural areas that are perfect for grow and processing operations; many urban and suburban QOZs may be good locations for retail outlets and dispensaries.

There are limitations on the types of business that can qualify for QOZ benefits, so no liquor stores, golf courses or sun tan parlors.  But Congress incorporated its “bad business” list from a Code section that has not been changed since 1986.  Accordingly, the “bad business” list does not include cannabis-related activities. (Please don’t ask us to explain why the cannabis industry is punished under one provision of the Tax Code but allowed to take advantage of another provision of the Tax Code; the best we can say is “it’s Congress.”)

So check the map before buying or building. You may find that some locations are more desirable than others, either because it will be easier to raise money from others, save taxes for yourselves, or simply turn out to be a neighborhood in which gentrification occurs more rapidly than normal.

Today we’re highlighting an interesting case out of the 6th Circuit. In K.V.G. Properties, Inc. v. Westfield Ins. Co., 900 F.3d 818 (6th Cir. 2018), a commercial landlord was denied insurance coverage for damage caused to his property by tenants who were illegally growing marijuana there. The landlord leased property to a group of commercial tenants for “general office or light industrial business.” Id. at 820. The DEA raided the property and caught the tenants growing “lots of marijuana.” Ibid. In the process, the tenants caused roughly $500,000 of damage to the property. The landlord evicted the tenants and filed an insurance claim. The landlord’s insurer denied coverage due to an exclusion for losses resulting from any “[d]ishonest or criminal act” by persons to whom the property was entrusted. The landlord sued the insurer, removed the case to federal court, lost, and appealed. On appeal, the 6th Circuit affirmed the district court’s ruling, addressing two interesting issues in the process.

First, the court discusses whether to apply state or federal law to determine if a loss results from a “criminal act.” At the time of the loss, medical marijuana was legal in Michigan under the Michigan Medical Marijuana Act. The court states that “we would hesitate before reading a Michigan insurance policy to bar coverage for a ‘criminal act’ when Michigan law confers criminal and civil immunity for the conduct at issue.” Id. at 822. The court eventually determined that the tenants’ activities were criminal under both state and federal law (more on that below), and so their musings on federalism are not precedential, but it is interesting to note that the 6th Circuit Court of Appeals appears open to the idea of ignoring the federal prohibition on cannabis and applying state law when considering issues governed by state law (such as insurance coverage).

Second, the 6th Circuit provides an important piece of tactical advice for landlords of cannabis businesses. The 6th Circuit ultimately determined that the question of state or federal law doesn’t need to be answered, because the tenants’ activities were illegal under both state and federal law, and therefore were “criminal acts” regardless of the choice of law. They reached this conclusion due in part to the presumption of illegal activity created by the DEA raid, but primarily due to the landlord’s own assertions in the eviction proceeding, including the statement that “[t]enant illegally grew marijuana” and that the [i]llegal growing of marijuana” was a “continuing health hazard.” Per the Federal Rules of Evidence, pleadings are binding statements that can be admitted as evidence against that party in subsequent legal proceedings. The takeaway here is to know your coverages and exclusions. The landlord likely could have found himself with a winnable federalism argument about what constitutes a “criminal act” had his attorney carefully tailored the eviction pleadings to avoid assertions of criminal conduct. Whatever was gained by a speedy eviction was lost by pleading into an exclusion from insurance coverage.

If you are a landlord considering evicting a cannabis business, contact us today. Our cannabis and real estate teams are experienced in these kinds of interdisciplinary issues, and stand ready to assist.

A few months ago, we chronicled a suit that Josephine County brought against the State of Oregon, which challenged the legality of the state’s marijuana laws. On August 30, Federal Magistrate Judge Clarke recommended dismissal of the lawsuit. In succinct fashion, Judge Clarke noted that Josephine County lacks standing to sue the State of Oregon on constitutional grounds because the county is a political subdivision of the state. As additional grounds for dismissal, Judge Clarke explained that the state has not (yet) placed any substantive limitation on the county’s regulation of marijuana, such that there is no live controversy for the court to address.

Judge Clarke closed by noting the hypocrisy of the county’s lawsuit:

Finally, on a practical rather than legal note, the Court is unpersuaded by Josephine County’s argument that the State is “requiring” it to “aid and abet a federal felony.” The County has provided no evidence to the Court that it has attempted to ban any and all marijuana use and production, as would be theoretically required by full compliance with the [Controlled Substances Act]. Instead, the County merely seeks to limit the use and production in rural residential zones, while continuing to allow marijuana use and production in other instances. Apparently the County is only worried about aiding and abetting federal felonies on certain kinds of land and not others.

Judge Clarke leaves open two important substantive issues — whether Josephine County can retroactively prohibit marijuana production in rural residential zones and whether the federal Controlled Substances Act preempts state level marijuana laws. His Report and Recommendation will be referred to a federal Article III judge for review — the parties have 14 days to submit objections.

Josephine County responded aggressively to a recent adverse decision by the Oregon Land Use Board of Appeals (LUBA), bringing suit against the State of Oregon to invalidate the state’s marijuana laws.  The complaint, filed April 3, 2018, argues that the federal Controlled Substances Act (CSA) preempts Oregon’s recreational and medical marijuana schemes.

The LUBA decision remanded a Josephine County ordinance that would have restricted marijuana production on significant portions of land in the county.  The decision was made on procedural grounds and left open several substantive challenges, one of which dealt with the county’s authority (or lack thereof) to retroactively prohibit marijuana production.  The county seeks to resolve this issue outside of LUBA by addressing ORS 215.130(5)—which protects existing land uses that were “lawful” when started—in its lawsuit.  The county asserts that ORS 215.130(5) does not apply to marijuana production, which is prohibited by the CSA.

The county asserts that the state requires it to “allow,” “facilitate,” and “accommodate” marijuana production in violation of the CSA.  Measure 91, which legalized recreational marijuana in Oregon, allowed local jurisdictions to opt out so long as 55% or more of local voters voted the measure down.  Voters in Josephine County voted no by a very narrow margin (17,313 to 17,311), making the county unable to opt out.

The county’s preemption arguments could have broad impact, implicating both recreational and marijuana legalization schemes throughout the nation.

*09/04/2018: An update on the suit can be viewed here.

In Cossins v. Josephine County, issued March 14, 2018, the Oregon Land Use Board of Appeals (LUBA) remanded a recently adopted ordinance to Josephine County.  The ordinance, No. 2017-002, would have restricted marijuana production on land zoned Rural Residential to lots and parcels larger than five acres, effectively prohibiting marijuana production on anything less than a double lot on much of Josephine County’s Rural Residential land.  The ordinance was also intended to apply retroactively, putting existing producers out of business.

Several producers petitioned LUBA to review the ordinance, raising procedural and substantive challenges.   LUBA held that the ordinance met the statutory definition of “rezoning,” which required advance, individual, written notice to affected landowners, and which notice the county failed to provide.  LUBA remanded the ordinance to the county with instructions to provide the required notice and to conduct at least one additional hearing after such notice.

The producers also argued that the ordinance was “unreasonable” and in violation of ORS 215.130(5), which prohibits land use ordinances from having retroactive effect.  In light of the procedural error, LUBA did not reach these two substantive issues.

LUBA has exclusive jurisdiction to review all governmental land use decisions in the state of Oregon.  This is its second opinion addressing a marijuana-related land use decision since the legalization of recreational marijuana.  In its first, Diesel v. Jackson County (2016), LUBA found a complete ban on marijuana production on land zoned Rural Residential to be “reasonable” because more than a million acres in the county were still available for marijuana production.  Various statutes allow local governments to place “reasonable” conditions on the manner that marijuana is produced and “reasonable” limitations on the location of marijuana production.

These decisions highlight the evolving nature of marijuana-related land use regulation and illustrate the need to review the local political climate in addition to any land use regulations already in effect.

A case in Yamhill County Circuit Court in McMinnville, Oregon pits two farms — a vineyard and a potential commercial marijuana grower — against each other, implicating the scope of Oregon’s Right to Farm law. At issue in Mahesh v. Wagner is a proposal by the owner of nearly seven acres of farmland to grow marijuana next door to an established 580-acre vineyard and a 19-acre vineyard currently in development.

Yamhill County initially approved the marijuana farm, as well as a facility that could process more than 30,000 pounds of marijuana per year, but later withdrew approval for the processing facility. The adjacent vineyard owners filed a lawsuit alleging claims for trespass and nuisance because the marijuana farm will “generate foul-smelling particles that will become airborne and migrate by air” to the neighboring vineyards and “negatively impact the quality and suitability of grapes . . . including but not limited to the use of the grapes for wine.”

The Yamhill County Circuit Court denied the vineyard owners’ motion for a temporary restraining order to prevent development of the marijuana farm. Subsequently, the owners of the marijuana farm sought to have the lawsuit dismissed, relying in part of Oregon’s Right to Farm and Right to Forest Act. The court also denied that motion.

Oregon’s Right to Farm statute (ORS 30.936) provides that farming practices on lands zoned for farm use shall not give rise to any private right of action or claim for relief based on nuisance or trespass. This immunity, however, does not apply where the offending farming practice results in damage to commercial agricultural products.

The marijuana farmers contended they are immune from suit because Oregon courts have held that the “mere allegation” of a farming practice is sufficient to invoke immunity under the Right to Farm statute. The vineyard owners countered that the statute explicitly excludes claims based on damage to commercial agricultural products and their allegation of damage to current and future grape crops brings them within the scope of the exception. The vineyard owners also argued that the legislature never intended the statutory immunity to apply to disputes between farms, contending that the purpose of the statute is to protect agricultural lands from the expansion of residential and urban uses.

The Circuit Court agreed with the vineyard owners stating, “The Right to Farm Act does not provide such blanket immunity as to support dismissal of the complaint on its face.” The court, however, also noted that the immunity could be an affirmative defense at a later stage of the case, leaving the issue open for future proceedings after discovery and motion practice.

No Oregon appellate court decisions have considered the question of whether the Right to Farm Act applies to disputes between farmers and courts in neighboring states have come down both ways. The Washington Supreme Court interpreted that state’s statute as prohibiting such use, even though the Washington Right to Farm statute does not have the same explicit exemption as Oregon. The Washington Supreme Court held that the Washington statute is a narrow codification of the common law “coming to the nuisance” defense and that it does not “insulate agricultural enterprises from nuisance actions brought by an agricultural or other rural plaintiff, especially if the plaintiff occupied the land before the nuisance activity was established.” By contrast, a California court of appeals held that California’s Right to Farm statute applies broadly to a bar a nuisance action brought by one commercial agricultural entity against another commercial agricultural entity.

Because the issue remains unresolved in Oregon, it may take further litigation between these parties to bring the issue to appellate review. Even if the exception does permit the vineyard owners to proceed with their nuisance and trespass lawsuit, additional hurdles remain, including squaring the issues with the Oregon courts’ prior rulings that harm alone is not sufficient to find nuisance and that a balancing of interests is required.