This article was submitted by Ashley Elsner Co-Founder and COO of Artery Pay. We are featuring it because it gives great context to some of the latest happenings in our industry and some excellent subsequent advice. Enjoy!
On Friday, February 19, 2021, Jim Patterson, the former CEO of Eaze, was charged with and pled guilty to conspiracy to commit bank fraud in connection with credit card processing for cannabis products on the Eaze platform as part of an ongoing criminal trial against Hamid Akhavan and Ruben Weigand. In this article, I explain what is alleged, why it’s illegal, why you should care, and how to protect yourself and your business.
What did Mr. Patterson and his co-conspirators allegedly do?
On March 31, 2020, Hamid Akhavan and Ruben Weigand were charged with conspiracy to commit bank fraud in violation of 18 U.S.C. § 1349. The indictment alleges that, from 2016 through 2019, Akhavan, Weigand, and other, unnamed co-conspirators engaged in a conspiracy, the “Transaction Laundering Scheme,” to deceive banks into processing over $100 million of credit and debit card payments to marijuana retailers by disguising the transactions so as to create the false appearance that they were unrelated to the purchase of marijuana.
-United States v. Akhavan, S3 20-cr-188(JSR), (S.D.N.Y. May. 20, 2020)
Jim Patterson has pleaded guilty to his part in the above criminal indictment. For your reference, below are the definitions of the crimes alleged in the indictment.
18 U.S.C. § 1349 states:
Any person who attempts or conspires to commit any offense under this chapter shall be subject to the same penalties as those prescribed for the offense, the commission of which was the object of the attempt or conspiracy.
The underlying offense here is bank fraud defined in 18 U.S.C. § 1344, which states:
Whoever knowingly executes, or attempts to execute, a scheme or artifice—
(1) to defraud a financial institution; or
(2) to obtain any of the money, funds, credits, assets, securities, or other property owned by, or under the custody or control of, a financial institution, by means of false or fraudulent pretenses, representations, or promises;
shall be fined not more than $1,000,000 or imprisoned not more than 30 years, or both.
In essence, Akhavan, Weigand, and Patterson are charged with lying to financial institutions about what the transactions on the Eaze platform were for to trick them into processing transactions for cannabis products in the US.
Why is this illegal?
First, a little background in how card processing works. There are a number of financial institutions that are involved in the processing and clearing of card-based transactions. Each one has to consent to process and clear the transactions. To do this, card networks like Visa, Mastercard, American Express, and Discover, that provide transaction systems, have created specific network rules and category codes that apply to card processing. Card issuing banks, such as Bank of America, Chase, Wells Fargo, Citigroup, and Capital One, underwrite the consumer transactions that the card networks feed them according to those same rules and category codes that they developed in collaboration with one another. Both the card networks and the card-issuing banks have to agree to support transactions for specific products and services so that those specific products and services get a category code. The category code is transmitted at the time of transaction and lets the underwriting bank determine if that transaction can be accepted for the specific consumer for the specific products and services.
Why is this important? Because neither card networks, that provide the systems, nor card-issuing banks, that provide consumers with the cards that are presently in their wallets, have agreed to process cannabis transactions until federal legalization of cannabis products at the earliest. Large national financial institutions, the card networks, and card-issuing banks included, have taken the position that as defined in their network and institutional rules, the US federal prohibition makes cannabis products illegal, and therefore, they will not process and clear those transactions via their systems and institutions.
To that end, the card networks have not provided a category code for US cannabis products. In order to trick card networks and card-issuing banks into processing and clearing cannabis product transactions, someone would have to miscode those transactions as an accepted category code. Miscoding financial transactions to a bank in any way is bank fraud. In this case, it is also money laundering because it deliberately hides the true source of the transaction.
But why should I, a cannabis business owner, care what happened to Jim Patterson from Eaze?
The simple answer is that bank fraud and money laundering cases get prosecuted. To that point, Judge Rakoff, the federal judge hearing the case, refused to grant dismissal against Weigand and Akhavan for 2 arguments that I hear from industry professionals all the time.
First, and I admit this argument (and it’s inverse that everything is federally illegal so who cares) always makes me laugh, Weigand and Akhavan’s attorneys argued that the Rohrbacher-Farr Amendment to the 2014 congressional spending bill prevents federal prosecutors from going after marijuana operations that comply with state law. Judge Rakoff’s response was that they are accused of bank fraud, not engaging in state-licensed cannabis business. “The Rohrbacher-Farr Amendment does not condone bank fraud by a medical marijuana dispensary any more than it condones murder, robbery, or assault.” I don’t think I can say that any more clearly but I’ll try. Cannabis protections from federal prosecution do not extend to other crimes.
Second, “no harm, no foul”. That is just not true. Financial crime laws are instrumental in protecting the US and its citizens from all kinds of criminal and terrorist organizations. It was money crimes that took down the mafia and made it possible to prove criminal organization. It is money crimes that allow law enforcement to track, monitor, and dismantle terrorist organizations, gangs, and cartels now. Money laws are paramount to public safety so money crimes are not “no harm crimes”.
I will add that the stability of the US economy and our financial markets is due in large part to the expectation of legal enforcement against fraudulent behavior. Fraud is a crime that does hurt people and businesses. I don’t like to make slippery slope arguments, but this is one of the rare cases where it actually applies. If you let some people get away with fraud, others see that fraud laws are not enforced and start committing fraud too. Then no one can trust anyone anymore and it becomes impossible to engage in free enterprise. Fraud breaks capitalism which relies on legitimate information and intention.
Finally, I’m going to add one more argument that wasn’t put forward but I hear all the time: “I didn’t set up the bank fraud so I’m not responsible for it.” Unfortunately, that’s not true; RICO is why. “RICO” stands for Racketeer Influenced and Corrupt Organizations Act (18 U.S.C. §1961 – §1968.) It is an extremely important tool for law enforcement for dismantling criminal organizations. RICO allows criminal liability for predicate offenses, like bank fraud and money laundering, to be extended to executives that control and order predicate offenses in furtherance of an enterprise. That means that criminal liability for these types of scams can extend to you, the business owner, just for using the scam, and sadly, it doesn’t matter if you know it’s a scam or not. You can still face prosecution. And, RICO requires forfeiture of “ill-gotten gains.” That means that by using the scam, you made legitimate transactions into illegal ones that can be subject to being frozen and seized.
How can I protect myself and my business from getting into similar trouble?
- Never lie to a financial institution about what you do. When you fib, financial institutions always eventually catch you and account shutdowns are substantial disruptions to your business and annoy your customers. If you are a licensed cannabis business that follows your applicable regulations and you don’t take products or money across state or international lines, you are not doing anything wrong. If the bank or processor chooses not to work with you because you are a cannabis business, that is their right. There are other banks and payment systems that will work with you as long as you haven’t fibbed to other banks in the past. It’s not necessarily easy or cheap but getting legitimate, open cannabis banking and cannabis payment platforms is the best thing for you and your business. It’s legal, reliable, and sustainable.
- Due diligence your financial providers and their offerings. You should be able to find out who they are, if they actually have appropriate experience, be able to contact and confirm with their backing banks that they have approved working with cannabis and that they know that your payment platforms are working with cannabis. If you find this to be too difficult, ask your lawyers and accountants to help you. They are your fiduciaries and have legal and moral obligations to make sure that you and your business are protected.
- Don’t use “workarounds”. There are no “workarounds” in finance. Attempts to “workaround” getting direct, verifiable consent from banks, card networks, other financial institutions are a bad idea. Not only can you be held personally criminally liable for misrepresenting your business and your transactions, like what happened to Mr. Patterson, your assets under these scams are freezable and seizable. Using “workarounds” can expose you to other threats to your business as well. For example, when your bank catches you, they can shut down your bank account and will submit your information to the terminated merchant file (TMF). The TMF is used by banks, payment processors, other financial institutions to determine if you are a “bad actor. This status can kill your ability to obtain any financial support in the US, think insurance, lending, banking, payments, listing on stock exchanges, etc. Also, this reputation will follow you and the rest of your executive team to future businesses. It’s not limited to your present company.
Don’t play games with your money.
Ashley Elsner is a financial lawyer and the Co-Founder and COO of Artery Pay, a payments company making payments and banking easy for cannabis businesses. Artery Pay unifies payments and banking compliance into a single system so that merchants and the banks and credit unions that support them are able to work with each other easily, effectively, and transparently. Whether you want non-cash payments or need help with your cash, Artery Pay can manage all of your transaction needs. Artery Pay is easy, fun, cheap, and legal – the way cannabis should be. For more information, visit www.arterypay.com or contact Ashley directly at email@example.com.