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Hemp’s “Key Participants” ≠ Banking’s “Beneficial Owners” … Pick One!

On October 31st the US Department of Agriculture published proposed regulations (technically, an interim final rule with request for comments) establishing a federal hemp production program  Proposed Federal Hemp Production Program Regulations.

There is lots in there to consider, and even comment on, but one thing caught my eye. So much so that I submitted a formal comment through the Federal Register portal. What caught my eye was that the interim final rule for the establishment of a domestic hemp production program under the Department of Agriculture includes definitions for “entity” and “key participants” of entities for the purposes of licensing and, for the key participants, or individuals, criminal background checks. Those definitions are different from the definitions of “legal entities” and “beneficial owners” contained in Department of the Treasury anti-money laundering and Bank Secrecy Act (BSA) regulations requiring banks to perform customer due diligence on those legal entities, including verifying the identity or identities of the legal entities’ beneficial owner(s).

Proposed Hemp Producers’ “Key Participants” ≠ Existing Banking Customers’ “Beneficial Owners”

The definitions of “entity” and “key participants” in the proposed 7 CFR section 990.1 should be reconciled with the existing definitions of “legal entities” and “beneficial owners” in the existing 31 CFR section 1020.230. It is generally accepted that marijuana related businesses or cannabis related businesses, as well as producers and manufacturers of hemp and hemp-related products, are finding it challenging to get and maintain financial services. Financial institutions have existing requirements to perform risk-based customer due diligence on all customers and clients, including “legal entities” and the beneficial owner or owners of those legal entities.

A consistent definition of “legal entity” and “beneficial owner” in titles 7 and 31, or definitions of “entity” and “key participant” in title 7 that are consistent with the definitions of “legal entity” and “beneficial owner” in title 31 would encourage financial institutions to provide financial services to hemp producers, and ease the burden on hemp producers needing to meet their licensing and reporting obligations under title 7 and their due diligence obligations under title 31.

Background

The Supplementary Information section, Part I Introduction, at page 19, provides that “the State or Indian Tribe will need to review criminal history reports for each applicant. When an applicant is a business entity, the State or Indian Tribe must review the criminal history report for each key participant in the business.” And at page 20 is a description of the procedures for reporting specific information to USDA by the State and Tribal plans. That information “includes contact information for each hemp producer covered under the plan including name, address, telephone number, and email address (if available).  If the producer is a business entity, the information must include the full name of the business, address of the principal business location, full name and title of the key participants, an email address if available, and EIN number of the business entity.”

So the new hemp regulations refer to hemp producers’ “key participants”. And at page 94 the agency estimates that each producer would have three key participants (“the AMS estimates each producer to have three key participants that would submit criminal history reports to USDA.”).

The term “key participants” is defined in two different ways in two places. In the Supplementary Information section, Part IV Definitions, at page 43, it is defined as follows:

“A ‘key participant’ is a person or persons who have a direct or indirect financial interest in the entity producing hemp, such as an owner or partner in a partnership.  A key participant also includes persons in a corporate entity at executive levels including chief executive officer, chief operating officer and chief financial officer.  This does not include such management as farm, field or shift managers.”

However, the actual proposed regulations provide for a different definition. The draft 7 CFR Part 990 -Domestic Hemp Production Program begins on page 117. Subpart A – Definitions includes section 990.1 that lists terms alphabetically. At page 122 is the definition of “entity” and at page 124 is the definition of “key participants” (the Supplementary Information section does not include a definition of “entity”). They must be read together:

“Entity. A corporation, joint stock company, association, limited partnership, limited liability partnership, limited liability company, irrevocable trust, estate, charitable organization, or other similar organization, including any such organization participating in the hemp production as a partner in a general partnership, a participant in a joint venture, or a participant in a similar organization.”

 “Key participants. A sole proprietor, a partner in partnership, or a person with executive managerial control in a corporation.  A person with executive managerial control includes persons such as a chief executive officer, chief operating officer and chief financial officer.  This definition does not include non-executive managers such as farm, field, or shift managers.”

A side-by-side comparison of the definitions is set out in the table below:

Supplemental Information
Part IV Definitions
Page 43
7 CFR Part 990 -Domestic Hemp Production Program Subpart A – Definitions
Section 990.1 Pages 122, 124
 

 

 

 

 

“A ‘key participant’ is a person or persons who have a direct or indirect financial interest in the entity producing hemp, such as an owner or partner in a partnership.  A key participant also includes persons in a corporate entity at executive levels including chief executive officer, chief operating officer and chief financial officer.  This does not include such management as farm, field or shift managers.”

“Entity. A corporation, joint stock company, association, limited partnership, limited liability partnership, limited liability company, irrevocable trust, estate, charitable organization, or other similar organization, including any such organization participating in the hemp production as a partner in a general partnership, a participant in a joint venture, or a participant in a similar organization.”

 

“Key participants. A sole proprietor, a partner in partnership, or a person with executive managerial control in a corporation.  A person with executive managerial control includes persons such as a chief executive officer, chief operating officer and chief financial officer.  This definition does not include non-executive managers such as farm, field, or shift managers.”

 

Compare this definition of “key participants” and “entity” with the definitions of “beneficial owner” and “entities” used for purposes of customer due diligence in the various anti-money laundering and terrorist financing prevention laws in the US Code, Title 31, known as the Bank Secrecy Act, or BSA:

31 CFR 1010.230(d) Beneficial owner. For purposes of this section, beneficial owner means each of the following:

(1) Each individual, if any, who, directly or indirectly, through any contract, arrangement, understanding, relationship or otherwise, owns 25 percent or more of the equity interests of a legal entity customer; and

(2) A single individual with significant responsibility to control, manage, or direct a legal entity customer, including: (i) An executive officer or senior manager (e.g., a Chief Executive Officer, Chief Financial Officer, Chief Operating Officer, Managing Member, General Partner, President, Vice President, or Treasurer); or (ii) Any other individual who regularly performs similar functions.

31 CFR 1010.230 (e) Legal entity customer. For the purposes of this section:

(1) Legal entity customer means a corporation, limited liability company, or other entity that is created by the filing of a public document with a Secretary of State or similar office, a general partnership, and any similar entity formed under the laws of a foreign jurisdiction that opens an account.

(2) Legal entity customer does not include … [lengthy list]

Conclusion and Recommendation

The definitions of “entity” and “key participants” in the proposed 7 CFR section 990.1 should be reconciled with the existing definitions of “legal entities” and “beneficial owners” in the existing 31 CFR section 1020.230. A consistent definition of “legal entity” and “beneficial owner” in titles 7 and 31, or definitions of “entity” and “key participant” in title 7 that are consistent with the definitions of “legal entity” and “beneficial owner” in title 31 would encourage financial institutions to provide financial services to hemp producers, and ease the burden on hemp producers needing to meet their licensing and reporting obligations under title 7 and their due diligence obligations under title 31.