Cannabis Law Prof Blog

Editor: Franklin G. Snyder
Texas A&M University
School of Law

Saturday, September 22, 2018

Sixth Circuit Defers to State Cannabis Law in Insurance Dispute

Federalism might bolster insurance coverage for commercial landlords who choose to rent to legal marijuana grow operations if the landlord ensures their insurance policy does not contain a broad exclusion for “criminal acts.” An insurance claim for damage to a rental unit may not bring a commercial landlord any relief, especially when the tenant was growing cannabis illegally under both state and federal law. K.V.G. Properties, Inc. v. Westfield Ins. Co. (hereinafter KVG), a recent case out of the Sixth Circuit, begs the question: Would an exclusion in a first-party insurance contract for criminal acts apply if the tenant had complied with state law when growing marijuana?

Michael S. Levine and Geoffrey B. Fehling of Hunton Andrews Kurth recently weighed in on the K.V.G. decision, which was handed down in late August and, according to Levine and Fehling, “previews ‘federalism’ arguments that are likely to reappear in future cannabis coverage disputes where state law permitting all or limited use of cannabis conflicts with federal law.”

5838164This dispute began when the DEA raided KVG’s commercial tenants for growing marijuana in rental units, but not before the tenants had already done substantial damage, like wall removal, holes in the roof, altered ductwork, and severe damage to HVAC systems. KVG evicted the tenants and sought coverage for nearly $500,000 in related losses from its insurers. KVG sued after the insurer denied its claim because the damages resulted from acts contained in the “Dishonest or Criminal Acts Exclusion” in the policy. The exclusion states that the insurer “will not pay for loss or damage caused by or resulting from any dishonest or criminal act by you, any of your partners . . . employees (including leased employees) . . . authorized representatives or anyone to whom you entrust the property for any purpose.”

Cultivating marijuana is a crime under federal law, but it is protected by Michigan law under the Michigan Medical Marihuana Act (the “MMMA”). The Court noted that “under different circumstances, KVG might have a strong federalism argument in favor of coverage.” However, KVG’s tenants did not comply with Michigan law, which KVG admitted in eviction pleadings. KVG claimed that the “tenant illegally grew marijuana” and it was a “continuous health hazard.”

Moreover, when raiding the premises, the DEA operated under guidance from the Deputy Attorney General James Cole stating that they should not prioritize “individuals whose actions are in clear and unambiguous compliance with existing state laws providing for the medical use of marijuana.” The Court reasoned that “the fact of the raid itself has some tendency to show that the tenants were not in ‘clear and unambiguous compliance’ with Michigan law.” Since pleadings are binding legal documents, KVG admitted its tenants engaged in a criminal act and never argued legality under the MMMA. Instead, KVG argued that the Dishonest or Criminal Acts Exclusion only applied if the tenants had been convicted. The Court rejected this argument because the policy says “criminal act,” not “crime” or “criminal conviction.”

Levine and Fehling concluded that two of the biggest takeaways from KVG are that:

"Policyholders should look for narrow criminal acts exclusions—that are, for example, triggered only by a 'crime' or 'conviction'—that do not apply broadly to alleged 'criminal acts.'" If KVG had not admitted the acts were 'illegal,' a court would be required to interpret exclusions narrowly and in favor of coverage, which may have led to a different outcome in KVG. Also, as the Sixth Circuit recognized, federal courts "act as faithful agents of the state courts and the state legislature," meaning that federal courts sitting in diversity emulate state courts that will enforce applicable state law.”

This deference to state law, including legalized cannabis use through ballot initiatives, may result in different outcomes on “criminal acts” arising from different facts.

--Kindal Wetuski

Business, Commercial Law, Contracts, State Regulation | Permalink


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