Turning over a new leaf: Cannabis, UK investors and the Proceeds of Crime Act 2002
The opportunity
The legal cannabis industry has become big business. In Canada both recreational and medical cannabis have been legalised after the passing of the Cannabis Act, which came into effect on 17 October 2018. The legal cannabis market in Canada is now predicted to be worth $4.34bn in sales by 2019. Various States in the United States of America have gone a similar way, legalising both recreational and medical cannabis use. The value of the legal cannabis industry in the USA is currently valued at about $10bn and the value of the revenue from it is expected to reach $23.4bn by 2022.
Unsurprisingly, individuals and institutions are now considering whether to invest in this new industry and potentially reap the rewards from early investment.
The risk
Investors from the United Kingdom are among those actively looking at this opportunity. Many UK investors may also find themselves inadvertently exposed to it as funds or other companies they are already invested in decide to also move into the cannabis space. Indeed, many of the largest US-listed cannabis companies already have UK shareholders. However, under English law, UK investors that hold shares or invest in companies whose business activities involve the cultivation of cannabis or sale of cannabis-related products are likely to be at risk of committing a criminal offence.
This may catch investors unawares and is causing concern in the investment community. Upon scrutiny, it appears to be the unpredicted and unintended result of broadly drafted legislation.
In this article, we set out the law in this area in detail and provide some clarity for companies and individuals who are considering investing in the cannabis industry or who have concerns about existing investments.
Relevant UK Law
The UK Proceeds of Crime Act 2002 (POCA) contains various money laundering offences set out in ss327 – 329. A person commits an offence if he or she:
- conceals, disguises, converts, transfers or removes criminal property (s327);
- enters into or becomes concerned in an arrangement which he or she knows or suspects facilitates (by whatever means) the acquisition, retention, use or control of criminal property by or on behalf of another person (s328); or
- acquires, uses or has possession of criminal property (s329).
These offences cover a very wide range of situations in which a person may come into contact with “criminal property”. It is here that POCA’s definitions bring cannabis – including cannabis grown and distributed legally abroad – within its scope and it becomes an issue for investors.
“Criminal Property”
Criminal property is defined in s340(3) and s413(1) POCA as property which constitutes a person’s benefit from criminal conduct or which represents such a benefit (in whole or part and whether directly or indirectly).
Criminal conduct is conduct which constitutes an offence in any part of the UK or would constitute an offence in any part of the UK if it occurred there (s340(2) POCA).
The basic position under the legislation is, therefore, that any conduct that would be an offence in the UK, no matter where in the world the conduct in question took place and under which legal regime it was permitted, would constitute criminal conduct. The benefits derived from this criminal conduct will constitute criminal property.
The combined effect of these definitions is widely acknowledged to have been too broad. To address this, POCA was amended in 2006 (by the Serious Organised Crime and Police Act 2005 (SOCPA)).
Overseas exception
SOCPA introduced an exception that has now been incorporated into each of the offences referred to above (ss327-329 POCA), commonly referred to as the “Spanish bullfighter” exception. Accordingly, ss327(2A), 328(3) and 329(2A) POCA all now provide that a person does not commit an offence if:
- the person knows, or believes on reasonable grounds, that the relevant criminal conduct occurred in a particular country or territory outside the United Kingdom;
- the relevant criminal conduct was not, at the time it occurred, unlawful under the criminal law then applying in that country or territory; and
- the relevant criminal conduct is not of a description prescribed by an order made by the Secretary of State (see ‘the exception to the rule’ below).
The effect of this is that conduct that is legal in other countries does not create criminal property in the UK for the purpose of the money laundering offences. For example, a bullfighter from certain parts of Spain (where the practice is legal) could come to the UK (where it is not) and spend his earnings without fear of committing an offence under POCA – hence the nickname for the issue.
The exception to the rule
This may sound reassuring to a prospective investor in the cannabis industry. However, there is an exception to this rule that brings cannabis-related business technically back within the scope of POCA.
As set out above (in limb 3), the Secretary of State has the power to prescribe conduct that falls outside of this exception (e.g. in s327(2A)(b)(ii)). The Proceeds of Crime Act 2002 (Money Laundering: Exceptions to Overseas Conduct Defence) Order 2006 (the 2006 Order) was passed for this purpose.
Under Article 2(2) of the 2006 Order, conduct which would constitute an offence punishable by imprisonment for a maximum term in excess of 12 months in any part of the UK does not form part of the ss327(2A), 328(3) and 329(2A) exception.
- The position is, therefore, that legal conduct in a non-UK country will still generate property that is treated as “criminal property” under POCA if that conduct would constitute a serious crime were it to be done in the UK. This includes the cultivation, possession, distribution (etc.) of cannabis, all of which carry sentences of greater than 12 months (as explained below).
Cannabis offences in the UK
In the UK, cannabis and synthetic cannabinoids are categorised as “Class B” drugs under Part II, Schedule 2 of the Misuse of Drugs Act 1971, which means that possession of either is punishable by up to five years in prison. The supply and production of either drug is punishable by up to 14 years in prison.
Clearly, each of these maximum sentences exceeds the limit of 12 months specified in the 2006 Order, so the offences would not fall into the overseas law exception in POCA.
The offences
Considering the law above it is conceivable that a UK investor may inadvertently commit an offence in breach of POCA.
For example, let us consider a listed company that purchases shares in a Canadian cannabis-production firm and also branches out to develop its own range of cannabinoid products.
- Criminal property – the listed company would begin to benefit from revenue generated by growing and selling cannabis. This would have the effect of making the shares in the listed company “criminal property”.
- s327 – an existing shareholder in a company may then decide to sell their shares. This would constitute the transfer of criminal property – an offence under s327 POCA.
- ss328 / 329 – an investor decides to purchase some shares in the listed company. By doing so they become involved in the arrangements that facilitate the acquisition of criminal property by another (an offence under s328 POCA). Additionally, this would constitute the acquisition of criminal property (an offence under s329 POCA).
UK investors in companies (including listed companies) based in countries that have fully legalised the production, sale and use of cannabis products may therefore be breaching the UK’s anti-money laundering laws.
Taken to its logical conclusion, the application of POCA could mean that if a large public company that forms a typical part of an investment portfolio invests in a US/Canadian cannabis company or begins to trade cannabis-related products then all of its UK investors may have to divest their holdings or risk committing an offence.
How to invest
The situation is not, however, as bad as it may appear and there are various reasons for current or prospective UK investors to take comfort.
Public Policy
It seems unlikely this is the sort of activity the UK authorities would be actively seeking to prosecute. The previous amendment of POCA by SOCPA shows that this legislation has previously been narrowed to avoid unintended consequences.
Below we set out various legal defences that may be relied on. It should be borne in mind that the offences committed in these sorts of situations are technical breaches of POCA. The difference between that and the reality of enforcement can be significant.
Lawful investment
Case law in the UK has considered the interpretation of the POCA offences and provided useful clarification.
The meaning of criminal property was scrutinised in cases such as R v Loizou [2004] EWCA Crim 1579, R v Geary [2010] EWCA Crim 1925 (in respect of s327 and s328 offences respectively) and GH [2015] 1 WLR 2126. The conclusion in these cases – albeit only in obiter comments in Loizou – is that property must be criminal property at the time when the alleged criminal activity was undertaken.
This has the effect that individuals who invest in companies that do not have a connection to the cannabis industry but subsequently change their business to include cannabis-related activity will not commit an offence until they begin to receive proceeds generated by that activity. Merely holding the shares would not constitute an offence.
Defence – adequate consideration
s329(2)(c) POCA also contains a specific defence to the offence of acquiring, using or possessing criminal property, which is that a person does not commit an offence if they acquired their property for “adequate consideration”.
Consideration would be “inadequate” for these purposes if it was significantly less than the value of the relevant property. Therefore, shares purchased in a public company for market value would not count as criminal property. The right to the benefits derived from those shares – such as dividends and capital growth – should also be considered to have been purchased for adequate consideration, albeit this position has not been tested and confirmed in the UK courts.
UK shareholders should therefore be entitled to rely on the adequate consideration defence to permit them to (i) purchase shares in companies exposed to the cannabis industry; (ii) receive dividends paid on those shares and (iii) sell those shares for a profit if the share price has risen since they were acquired, in each case without such conduct constituting an offence under s329. It must be noted, however, that in relation to points (i) and (iii) offences under s328 and s327 POCA (respectively) may still be committed.
A key consideration for each offence is therefore to ask when the relevant activity took place and consider any available defences accordingly.
The Complete Defence – Suspicious Activity Reports
Notwithstanding the above considerations, POCA also specifies a method to ensure that the various money laundering offences would not be committed. ss327(2), 328(2) and 329(2) all set out that a person does not commit an offence under the relevant section if they make an “authorised disclosure” and obtain the appropriate consent.
This “authorised disclosure” takes the form of a suspicious activity report (a SAR) that is typically submitted to the National Crime Agency (the NCA).
If a person submits a SAR before they undertake the relevant act and receives consent to proceed from the NCA then they will not commit a money laundering offence in respect of that conduct. The NCA may give “active” consent (i.e. respond saying that consent is granted). In addition, if the NCA do not respond to a SAR within seven working days from the first working day after submission then they are deemed to have given consent and the person may proceed (s335(5) POCA).
However, despite the clarity and comfort that an approved SAR can provide, it should also be noted that it cannot be used to obtain “blanket” permission. To adhere to the SAR regime an investor would technically have to submit a SAR each time they decided to take an action in respect of their “criminal property” – such as purchasing shares, receiving dividends or selling their shares. Investors might therefore end up burdening themselves with unwelcome reporting obligations and the NCA with excessive numbers of reports to process.
Conclusions
- UK investors in cannabis-related companies, even indirectly, risk technically committing money laundering offences under POCA.
- Investors could consider a couple of defences in POCA and its interpretation in the courts. Existing shareholders in businesses that are moving into this space may take comfort from these defences.
- In any event, any existing or prospective shareholder can safeguard the legality of their investments by submitting a SAR to the NCA and receiving consent (active or deemed) to proceed with their proposed activity (be it selling existing investments, holding them and receiving dividends or making new investments).
This area of law and its application in the specific context of investing in cannabis companies has yet to be tested in the courts or commented on by the UK authorities. A clear way to resolve any current ambiguity in the legislation could be for the UK Government to amend the 2006 Order or to issue some guidance to investors. No matter which way the UK Government decides to proceed with this issue, the SAR regime – which is already overburdened with the number of submissions made to the NCA – cannot and should not be relied upon to be the sole source of certainty in this area.
As the legal cannabis industry continues to increase in value over the coming years and the investments exposed to it become more numerous and available, we will watch with interest to see whether the UK authorities turn over a new leaf in their anti-money laundering strategy.
