Marijuana: An emerging coverage risk

Insurable interest?

The accepted rationale for denying claims for loss of illegal or medical marijuana includes: 1) it is illegal under federal law; 2) a contract for an illegal item is unenforceable; and 3) there can be no insurable interest in an illegal item (Tracy v. USAA, 2012). Under the McCarran Ferguson Act, regulation of insurance is left to the individual states. Although insurers may still ignore state law and deny a marijuana claim based upon federal criminal law, to do so could be unwise. State statutes legalizing marijuana expressly grant an insurable interest up to the lawful quantity of marijuana (RCW 48.18.040). Further, these marijuana laws specifically require that no contract — including a contract of insurance — is unenforceable on the basis that manufacturing, distributing, dispensing, possessing, or using marijuana is prohibited by federal law (Oregon Measure 91 – Section 12).

Potential exposure under personal lines

Policies often set the limit on contents as a fixed percentage of the structure limits. This method works if the insurer can rely upon commonality of risk, meaning the typical house of a certain size and value will have furnishings, electronics, clothing and other personal property of approximately the same quantity and value. Certain items which are less common at high values such as jewelry, antiques, cash and collectibles are subject to special limits.

Most policies cover "trees, shrubs and other plants" for loss caused by fire, theft or vandalism, typically limited to $500 per plant. This coverage contemplates destruction or theft of a plant, not its valuable "fruit." Further, what happens if a budding flower mysteriously disappears? Personal property is covered for theft, but may also be covered for loss of property from a known place when it is likely that a theft has occurred. Does the $500 limit per plant apply? Does the coverage for "mysterious disappearance" apply only if the bud has been cut from the plant?

Consider that the same "typical" homeowner may legally grow marijuana worth at least $4,800, but potentially upwards of $40,000 at harvest. Also factor in the increased risk of theft, fire and water damage associated with the equipment and methods necessary to grow marijuana in a home. Most underwriters would consider an illegal grow operation a substantial risk of loss or a change in the nature of the risk. If the same grow operation becomes legal, the activity itself poses no less risk.

Growing marijuana indoors requires special equipment such as high energy lamps with 1,000-watt bulbs running 12 to 18 hours per day, watering, humidity control and ventilation. The risk of property damage caused by fire, mold/mildew, theft, water damage and pollution increases substantially.

The most common danger for grow rooms is overloading the circuitry. An average room in a house shares a single 15-amp circuit with another room. A single 1000-watt grow light will require a little over nine amps to operate. That leaves only six amps for all other equipment. Add in 100 watts for a circulating fan and 60 watts for an external light source and that electrical load consumes the entire available 15 amps. A larger circuit breaker/fuse might be used to stop power interruption, but it drastically increases the risk of fire.

There are other risks of fire. Grow lamps generate a great deal of heat and may be intensified by homemade reflective adapters. A ceiling-mounted lamp may come loose and fall; a floor lamp may tip or be knocked over by a pet, causing a fire.

What if a fire is caused by a residential grow operation? During your investigation you determine the policyholder was growing five plants when he or she can legally grow four. If the policy excludes loss caused by a "criminal act by you," do you deny the entire claim? Do you cover the loss but only pay up to the legal quantity of marijuana?

There is also an increased risk of home theft. Currently, the cost of marijuana varies widely, ranging generally between $300 and $600 per ounce. Indoor plant yields have been estimated to be four to eight ounces per plant, and outdoor plant yields are estimated at 16 ounces per plant. These indoor yields may be conservative compared to frequent reports by police stating the potential yield of seized marijuana plants tends to be about one pound per plant.

If, for example, a state allows up to four plants per household, that means the total potential exposure per household is between $4,800 and $38,400. This may lead to an increased risk of burglary. Sixteen ounces of marijuana will fit into a typical freezer bag, making it both highly valuable and extremely portable.

Potential exposure under commercial lines

Commercial leases typically prohibit illegal operations by the tenant or may require a drug-free rental. A landlord who leases his commercial building will often restrict the use of the property to any "legal purpose," although he may have the unpleasant experience of discovering his tenant is legally growing marijuana inside a rented house, apartment or building. Consider the owner's potential liability if neighbors complain about the smell of the marijuana coming from an adjacent apartment unit, rental house or commercial building. Offensive odors can be either a nuisance or a trespass.

If the tenant decides to open a legal dispensary in a commercial building, it may not be expressly forbidden by the lease. Consider the owner's potential liability if neighboring businesses complain the dispensary is a nuisance or the odor is a trespass. Odor is a pollutant which is excluded by most standard insurance policies. "Pollutants" are often defined as a solid, liquid, gaseous or thermal irritant or contaminant.

Given the increased risk of loss arising out of legally growing, possessing and using marijuana, should the policy application require disclosure of the insured's intent to grow marijuana? Should the carrier alter the policy to provide a special limit of, perhaps $2,500 for loss or damage to marijuana? Should marijuana be covered as an optional endorsement? Should any loss arising from the growth, cultivation, possession or use of marijuana be excluded under both property and liability coverages? These are questions insurers should be asking themselves sooner rather than later.

*Article IV of the U.S. Constitution states that federal law preempts state and local laws.

Robert S. May is a partner at Kilmer, Voorhees & Laurick in Portland, Ore. May's practice focuses on serving the insurance industry in first party/bad faith defense, coverage and defense of complex casualty claims in the trial and appellate courts of Washington and Oregon.He also serves as counsel for a number of Oregon colleges and universities.