New York’s Marihuana Regulation & Taxation Act (MRTA) legalized the sale of adult-use cannabis in New York, establishing the Cannabis Control Board (CCB) and the Office of Cannabis Management (OCM). The state’s effort to create a fully licensed market is well underway, with OCM and CCB undertaking the lengthy process of formulating a comprehensive set of final regulations to govern every aspect of the industry.

New York presents a lucrative opportunity for cannabis industry players to move into a huge, new market. Jumping in early may seem like a good idea, but proceed with caution! One of the currently proposed regulations—defining who the CCB will consider a “true party of interest” (TPI) on a license—can be a potential landmine. The disclosed owner of a business may not be the only person New York considers to be “the licensee.” Anyone with a financial interest in the business can be considered a TPI, including interests gained through contracts that look like arm’s length arrangements. 

TPIs will be considered, for many purposes, the licensee of that business. As such, they can unwittingly end up restricted from holding other New York licenses or entering into similar contracts with more than one licensee. Businesses already granted licenses based on ownership’s membership in a prioritized social or economic equity group could have their status diluted by true parties of interest and put their license at risk. This article discusses these issues in detail. 

The reasons for true party of interest regulations

A main goal of the OCM and CCB is to enforce one of MRTA’s seminal legislative mandates: promoting social and economic equity through the licensing process. MRTA gives licensing priority to applicants impacted by prior cannabis criminalization, as well as to minority-owned businesses, women-owned businesses, distressed farmers, and service-disabled veterans. At the CCB’s public meeting on Nov. 21, 2022, OCM Chief of Staff Axel Bernabe confirmed that that the OCM considers determining TPIs for applicants/licensees to be an essential part of preserving New York’s goal of a decentralized industry that allows small and mid-sized, independent licensees to enter and thrive.

The TPI regulations are designed to prevent hidden ownership interests from controlling licensed cannabis businesses. Section 126(1) of MRTA expressly outlaws “availing,” i.e., using a “front” to obtain a license for the real owners/operators of a business. TPIs end up availing licenses because they are restricted from holding licenses on multiple tiers, would otherwise not be able to obtain a license, or want to avoid the scrutiny and discipline of regulators. MRTA uses the same availing restriction found in section 111 of New York’s Alcoholic Beverage Control Law: a license “issued to any person . . . shall not be transferable to any other person,” “all privileges granted by any . . . license . . . shall be available only to the person therein specified,” and a violation subjects the license “to revocation for cause.” In my experience at New York’s State Liquor Authority (SLA), troubled businesses are often being operated by availers: persons the SLA did not approve to hold the license and who do not fear being disciplined for misconduct. Availing is one of the few charges on which the SLA will cancel a license for a first offense.

Who can end up as a true party of interest?

The current draft of the OCM regulations define “true party of interest” to include:

• All of the licensed business’s partners, officers and directors (and their spouses)
• All stockholders (and their spouses)
• The owners of subsidiaries, affiliates, parents, holding companies, and the like
• Persons who, through a “risk sharing or services agreement,” get paid an amount that exceeds, in one year, the greater of (i) 10 percent of gross revenue, (ii) 50 percent of net profit, or (iii) $100,000
• A “person that has authority to or exercises control over the applicant or licensee”

Section 118.1(a)(81).

Shareholders, partners and persons who, as officers and directors, make decisions on the operations of a company are going to be treated as TPIs. But, for example, the spouses of persons in the first two categories will be as well, the purpose being to block a practice common in the liquor industry: putting a licensed business in the name of a spouse to evade restrictions. 

If you enter into a contract with a licensee that pays you more than 10 percent of the business’s gross revenues, or more than $100,000 in a year, and the contract is considered a “risk sharing or services agreement” by the CCB/OCM, you are likely to be considered a TPI. A loan agreement with interest payments that meet those percentage or dollar thresholds could qualify as well. Regulators could decide that selling a licensee any type of service, such as consulting, advertising or marketing services, would also qualify. 

Another potentially dangerous category is for persons who “exercise control.” Control is defined in the regulations as “the authority to order or direct the management, operation, managers, or policies of” a licensee. §118.1(a)(23). That section includes a non-exclusive list of activities that would constitute control—approving budgets, adopting policies and procedures, hiring and firing, controlling assets—but this category could be interpreted extremely broadly.

For example, if an out-of-state cannabis company with a successful brand enters into an agreement with a licensed New York cultivator or processor to use that brand regulators could assert that contract terms the licensor may use to ensure brand quality—the right to direct processes, approve of packaging—constitute “control” under these definitions. 

Implications of being a true party of interest

Restrictions on other licenses or contracts: TPIs are, to large extent, subject to the same restrictions and obligations that the sole proprietor of a licensed business would be. For example, no person can be a TPI in more than one cultivator license or more than one processor license. See, e.g., §123.3(c).[1] Dispensary licenses are limited to three per person. If the third-party brand owner discussed above is deemed a TPI on the first cultivator license it enters into a contract with, the regulators may seek to prevent it from entering into the same contract with a second cultivator. Such a restriction might cause long-term problems should the first licensee be unable to perform as expected. Services providers hoping to do business with dispensaries across the state may want to steer clear of contract terms that could be construed as granting control over aspects of those dispensaries’ businesses.

Losing a conditional or full social and economic equity license: To qualify for conditional licenses, owners had to meet certain criteria. For example, conditional cultivator licenses could only be held by a business that holds a 51 percent or more ownership in an entity that held an industrial hemp grower authorization from the Department of Agriculture and Markets. Under the proposed regulations governing full licenses, to qualify as a social and economic equity applicant, the member of the qualifying category must demonstrate that it has “ownership and sole control” of the applicant. §121.2(a).[2]

After a conditional license has been granted, or when full licenses are obtained based on social and economic equity status, contracting with a third party deemed to be a TPI could alter the ownership structure in a way that puts the license in jeopardy. The CCB/OCM website already warns conditional licensees of this risk in its frequently-asked-questions guidance: 

“Conditional licensees are reminded that they risk losing their ability to continue their licensed activity upon the expiration of their conditional license period if their ownership structure is not fully compliant with all required ownership restrictions. Licensees are recommended to consult with their own legal counsel before entering into any agreements that may, for example, create TPI relationships, violate ownership rules, and result in denials of full licensure.”

Tied house restrictions: MRTA creates a two-tier industry in New York, preventing businesses from operating on both the manufacturing/processing/distribution tier and the retail tier. If one is a TPI on a cultivator, processor, or distributor license, that person or company cannot hold a retail dispensary or retail on-site consumption license or be a true party of interest in such a license. See, e.g., §123.3(f). The same restriction applies in the other direction—retailers’ TPIs cannot also be licensees or TPIs on the manufacturing/processing/distribution tier.[3]

Discipline/disclosure issues: Violations of law or regulations create a disciplinary history for a licensee and can even lead to license suspension or cancellation. A TPI in a license that is subject to discipline could have its business negatively affected by a disciplinary determination on the license whether it was involved in the bad conduct or not. That could have an impact on the TPI’s ability to obtain prospective licenses in New York or in other states and could also lead to disclosure-of-discipline requirements in other states.

Application disclosure requirements: TPIs are also subject to the many disclosure obligations of a licensee in the application process: photo ID, social security number, home address and telephone number, criminal history, application history in other states, discipline on other licenses, and other information one may prefer to keep confidential. An applicant or licensee is responsible for disclosing its TPIs and ensuring that such information is provided to OCM. Additionally, being deemed a TPI could lead to disclosure requirements in other states.

Dealing with potential true party of interest issues

The proposed TPI regulations are not yet final. Revisions to the entire package of adult-use cannabis regulations (Parts 118-124, 131), already through an initial public comment period, are expected to be presented to the CCB for approval on May 11, 2023, likely to be followed by another period for public comment. It could be many months before these regulations are finalized.

Dentons has significant experience navigating similar restrictions in other states’ cannabis regulations. And I have significant, recent personal experience dealing with a very similar regulatory regime as applied to New York’s alcoholic beverage industry. We can provide guidance and counsel on mitigating potential risks associated with TPI regulations.

Author Gary Meyerhoff, a partner in Dentons’ Commercial Litigation Group since 2000, spent three years (2019-2022) as the general counsel of the New York State Liquor Authority. In that role, he was responsible for interpreting and enforcing New York’s Alcoholic Beverage Control law, on which large portions of MRTA were modeled. Gary’s insights in this article are informed by his experience enforcing and litigating near-identical “true party of interest” matters in the alcoholic beverage industry.

[1] There is an exception for TPIs on the supply tier: “Passive investors” who hold less than 5 percent of the shares of a publicly traded company, or less than 20 percent of any other company, can escape the “hold one license” restriction.

[2] “Sole control” is defined in the proposed regulations as having “the authority to independently materially influence day-to-day business decisions, operations….” §118.1(a)(79). But how that definition would apply to individual circumstances remains to be seen.

[3] There are exceptions. New York has allowed 10 registered organizations (ROs) who held medical cannabis licenses when MRTA was passed to remain vertically integrated for adult-use business. New York will also have available a micro-license which, like micro-breweries, allows a person to manufacturer a limited volume of product that it can then sell at its own retail location.