Policy Update

JULY 30, 2018

SEC Rejects Winklevoss Bitcoin ETP, Delays Decision on Other ETFs to September

The SEC has delayed the announcement of a decision on whether to approve five bitcoin-related exchange-traded funds until September, and noted that it received only two comments on the proposed ETFs. Of the ETF proposals filed by Direxion Investments earlier this year, one would match bitcoin’s price and the other four are based on the cryptocurrency’s price movements. The SEC this week rejected the application of the Winklevoss twins to launch a Bitcoin-based exchange-traded product (ETP), saying it could not guarantee that the Cboe Global Markets exchange could “prevent fraudulent and manipulative acts and practices and to protect investors and the public interest.” The Winklevoss twins filed an application for a Bitcoin ETP last March, and were denied then as well. Republican Commissioner Hester Pierce dissented from the decision, saying the SEC’s approach “undermines investor protection by precluding greater institutionalization of the bitcoin market,” and arguing that the exchange could comply with regulations to list the ETP.

Fed Chairman, Lawmakers, DOJ Express Concern about Cryptocurrencies’ Potential National Security Threat

Last week, Federal Reserve Chairman Jerome Powell told the House Financial Services Committee that “cryptocurrencies are great if you’re trying to hide or launder money, we have to be very conscious of that.” In another hearing later that day, Rep. Sherman (D-CA), a frequent critic of cryptocurrencies, went as far as to say “We should prohibit U.S. persons from buying or mining cryptocurrencies. Mining alone uses electricity which takes away from other needs or adds to the carbon footprint. As a medium of exchange, cryptocurrency accomplishes nothing except facilitating narcotics trafficking, terrorism, and tax evasion.” On July 20, the Department of Justice released its Cyber Digital Task Force Report announcing the formation of a Digital Currency Initiative to prosecute anti-money laundering cases involving cryptocurrencies, which are on the rise in cases of illicit financing. The Cyber Digital Task Force noted that “While law enforcement has made strides in its ability to trace virtual currency transactions, criminals often launder their virtual currency by mixing one user’s money with multiple other users’, or sending their virtual currency through a convoluted series of transactions.” The House Financial Services Committee unanimously passed Rep. Ted Budd’s (R-NC) “Financial Technology Protection Act,” which would create a Treasury-lead task force to study illicit financing using cryptocurrencies and provide rewards for information leading to convictions related to terrorist use of cryptocurrencies. The bill would also establish that it is the “sense of Congress that the Federal Government should prioritize the investigation of terrorist and illicit use of new financial technology, including digital currencies.”

CFTC Doesn’t Want Authority to Regulate Cryptocurrency Cash Markets

CFTC Chairman Giancarlo told the House Agriculture Committee that he does not want more authority from Congress to regulate cryptocurrency cash markets. He advocated for allowing the space to develop further “before we run in with regulation,” saying that the government should “first, do no harm.” In contrast, former CFTC Chairman Gary Gensler told the same Committee last week that Congress should give the CFTC more authority over cryptocurrency cash markets. Chairman Giancarlo, however, argued that “There’d be a change in precedent and a change in the agency’s orientation that I’m not ready to advocate for.” He did request additional authority to monitor new financial technology, advocating for Rep. Scott’s (R-GA) CFTC Research and Development Modernization Act.

Coinbase Establishes PAC

Coinbase, the largest cryptocurrency exchange in the U.S., established a political action committee (PAC), titled the Coinbase Inc. Political Action Committee. A spokesperson for the exchange said “It’s part of a broader effort to invest more in our government affairs program… We have a role to play in shaping policy and laws that protect consumers and also make sure that innovation is allowed to continue.” The PAC has yet to receive any donations, but would “be intended to possibly elect candidates who share the interest of Coinbase and our customers.” Coinbase has hired the Franklin Square Group, a tech lobbying firm, and is expected to have a growing presence in D.C.

Lawmakers Press SEC on Cryptocurrency Clarity

In the wake of SEC director of corporate finance William Hinman’s announcement that Ether is not a security, Reps. Budd (R-NC), Emmer (R-MN), and Davidson (R-OH) penned a letter to the SEC seeking more clarity in the cryptocurrency space. “We are concerned about the use of enforcement actions alone to clarify policy, and believe that formal guidance may be an appropriate approach to clearing up legal uncertainties, which are causing markets for cryptocurrencies to be unnecessarily fraught,” they say.

Coinbase announces, and retracts announcement of, SEC licensing approval.

Coinbase, the largest U.S. exchange for digital currencies, announced earlier this week that the company received approval from both FINRA and the SEC on acquisitions that would allow trading of tokenized securities on its exchange. Coinbase later said the SEC did not offer approval, but only because it did not need SEC approval for the change of control application in the first place. “Coinbase has discussed aspects of its proposed operations, including the acquisition of the Keystone Entity, on an informal basis with several members of SEC staff. Approval was received from FINRA” said a Coinbase spokesperson. The spokesperson says the ultimate goal is to list digital assets registered and classified as securities.

Nasdaq Open to Becoming a Cryptocurrency Exchange, Partners with Gemini

Nasdaq CEO Adena Friedman said “Certainly Nasdaq would consider becoming a crypto exchange over time,” as the regulation is ironed out and the space matures. In the meantime, Nasdaq is supporting existing cryptocurrency exchanges. Friedman was less optimistic about cryptocurrency fundraising, saying “ICOs need to be regulated. The SEC is right that those are securities and need to be regulated as such.” Nasdaq recently announced a technology deal with the Winklevoss twins’ cryptocurrency exchange Gemini, where Gemini will have access to Nasdaq’s surveillance technology to help maintain a “rules-based marketplace” for participants. Gemini recently hired the New York Stock Exchange’s former chief information officer Robert Cornish to serve as chief technology officer and oversee the deployment of Nasdaq’s surveillance technology on the exchange.

Joint Economic Committee Report Endorses Future of Blockchain Technology and Cryptocurrencies

In March 2018, the Joint Economic Committee released its 2018 Report, Chapter 9 of which is titled “Building a Secure Future, One Blockchain at a Time.” The report indicates that Congress sees blockchain technology as a “potential tool for securing America’s digital infrastructure, protecting against economic losses, cyberattacks, and threats.” The conclusion makes four recommendations:

  1. Policymakers and the public should become more familiar with digital currencies and other uses of blockchain technologies, which have a wide range of future application.
  2. Regulators should continue to coordinating with each other to guarantee coherent policy frameworks, definitions, and jurisdictions.
  3. Policymakers, regulators, and entrepreneurs should work together to ensure developers can quickly deploy blockchain technology to protect Americans from fraud, theft, and abuse, while ensuring compliance with relevant regulations.
  4. Government agencies at all levels should consider and examine new uses for blockchain technology to help make the government function more efficiently.

The Report, which called 2017 “the Year of Cryptocurrencies,” said it’s “important [not to] prejudge or hinder technological developments.”

New York Department of Financial Services Approves Another Virtual Currency License

The New York Department of Financial Services approved a virtual currency license for BitPay, a payments firm. According to the department, this is the first license issued to a wholesale payments process, and the terms of the license dictate that BitPay can offer clearing and settlement services for New York Bitcoin Merchants. The licensing program was at first deemed too onerous, but it has recently more than doubled the number of approved companies. There are now a total of 10 “BitLicenses” issued to virtual currency companies.

Former CFPB Deputy Director Launches Fintech Firm

Raj Date, former acting CFPB deputy director, and John Beccia III, Circle General Counsel, launched FS Vector, a “new advisory firm created to help innovative financial services companies implement fintech and regtech initiatives, establish best practices, and navigate complex regulatory and legislative challenges.” John Collins, former policy head of Coinbase and Vice President for International Policy at the Bankers Association for Finance and Trade, will join the firm as a partner.

Thailand SEC’s ICO Rule Takes Effect

The Thailand SEC’s rule governing ICOs took effect of July 16, making it one of the first countries to allow and regulate ICOs. Under the framework, and entity seeking to conduct an ICO must file an application with the regulator prior to the ICO.

IRS Adds Cryptocurrency Transactions to Compliance Campaigns, Launches International Tax Compliance Effort

The IRS announced on its website that it will launch a Virtual Currency Compliance campaign to “address noncompliance related to the use of virtual currency through multiple treatment streams including outreach and examinations.” It referenced a 2014 notice that “states that virtual currency is property for federal tax purposes.” The IRS will consider and solicit taxpayer and practitioner feedback in education efforts, future guidance, and the development of IRS practice units. The IRS is not contemplating a voluntary disclosure program to address virtual currency tax non-compliance.

The IRS is joining tax authorities from the United Kingdom, Canada, Australia, and the Netherlands to form the Joint Chiefs of Global Tax Enforcement (J5) tasked with combating cryptocurrency-related tax crimes. The IRS released a statement saying “We will work together to investigate those who enable transnational tax crime and money laundering and those who benefit from it. We will also collaborate internationally to reduce the growing threat to tax administrations posed by cryptocurrencies and cybercrime and to make the most of data and technology.” The J5 will develop shared strategies to gather information and intelligence, drive strategies and procedures to conduct joint investigations and disrupt illicit activity, and collaborate on effective communications.

DOJ, SEC, FTC, and CFPB to Form Market Integrity and Consumer Fraud Task Force

A presidential executive order directed the collaboration by the Justice Department, Federal Trade Commission, Securities and Exchange Commission, and Consumer Financial Protection Bureau through a task force focused on “market integrity and consumer fraud.” Deputy AG Rosenstein said they aim to combat “fraud against consumers — particularly the elderly, service-members and veterans… Our goal is not to prosecute fraud; our goal is to deter fraud, and that will be our main objective.” The agencies expect to be more successful by acting in a coordinated effort and concentrating resources.

SEC Official States Ether is Not a Security

At the Yahoo! All Markets Summit: Crypto event in San Francisco last month, SEC director of corporate finance William Hinman clarified that in his view Ether is not a security. Speaking from prepared remarks, Hinman said, “Based on my understanding of the present state of ether, the ethereum network and its decentralized structure, current offers and sales of ether are not securities transactions.” The clear and explicit statement was a relief to the cryptocurrency industry, particularly after remarks earlier in the month by SEC Chairman Clayton, who said every ICO he has seen appears to be a security. Hinman emphasized that other cryptocurrencies, including those based off ethereum, can still be classified as securities.

House and Senate Introduce Bills to Study How Virtual Currencies are Used to Fund Illicit Activities

Parallel bills were introduced in the House and Senate to require the Comptroller General of the United States to carry out a study on how virtual currencies and online marketplaces are used to buy, sell, or facilitate the financing of goods or services associated with sex trafficking or drug trafficking, and for other purposes. The FIND Trafficking Act (H.R.6069), introduced by Rep. Vargas (D-CA-51), and the Senate version (S.3179), introduced by Sen. Cortez Masto (D-NV), would direct the GAO to create a report to Congress that covers how illicit proceeds are transferred into the U.S. banking system, state and non-state actors that benefit from or participate in such activity, and preventative efforts from federal and state agencies. Widely viewed as a negative for the industry, pressure mounts for affirmative cryptocurrency legislation.

SEC Seeks Comments on SolidX Bitcoin Shares, a Proposed Bitcoin ETF

Cboe BZX Exchange, Inc. filed with the SEC a request for approval to list and trade SolidX Bitcoin Shares, an ETF proposed to be offered by the VanEck SolidX Bitcoin Trust. The Trust, which is a partnership of investment firm VanEck and blockchain startup SolidX, would invest only in Bitcoin. There have been numerous previous attempts to list Bitcoin ETF’s—SolidX Bitcoin Shares is VanEck’s third attempt—but the SEC has forced withdrawal in every case. According to Coindesk, the SEC is seeking comment on the potential bitcoin-based exchange.

Uphold Crypto Exchange Inks Deal to Acquire JNK Securities, a Licensed Broker-Dealer

Virtual and cryptocurrency startup, Uphold, has agreed to undisclosed terms to acquire JNK Securities Corp., a broker-dealer based in New York. If the deal is approved by Finra, Uphold will seek approval from the SEC to operate as an alternative trading system. The SEC has said most coins issued through ICOs are securities, which means issuers and platforms that handle trading must comply with federal securities laws. Uphold, formerly known as Bitreserve, has offices in California, London, Portugal and Shanghai.

Malta Passes Three Blockchain-related Bills to Attract More Cryptocurrency Businesses

Silvio Schembri, Malta’s Junior Minister for Financial Services, Digital Economy and Innovation calls it a plan to become “Blockchain Island.” The Maltese Parliament passed three separate bills, each with a blockchain focus: the Innovative Technology Arrangements and Services Bill, the Virtual Financial Assets Bill, and the Malta Digital Innovation Authority Bill. Notably, the Virtual Financial Assets Bill is an attempt to create a securities-like framework for virtual assets that will allow them to be treated as financial instruments in Europe. Malta is pushing to be a center for blockchain activity, and several large cryptocurrency exchanges—OKEx, BitBay, and Binance—recently moved their operations there.

Treasury Department to Recommend Fintech Regulatory Sandboxes

Craig Phillips, Counselor to Treasury Secretary Mnuchin, said at a SIFMA fintech conference that regulators should “permit experimentation by firms,” and that the Treasury will recommend regulatory sandboxes for financial technology companies to encourage the development of new products and businesses while facilitating proper regulation. The Treasury Department is expected to release a report on fintech and non-banks soon, which will include a set of recommendations for regulatory harmonization of state and federal regulation and include comments on marketplace lending. Phillips does not expect Congress to enact any laws based on the report, but suggested that FSOC could coordinate fintech policy.

House Financial Services Committee Raises Cryptocurrencies During SEC Oversight Hearing

Chairman Jay Clayton appeared before the House Financial Services Committee for a hearing on oversight of the Commission. On cryptocurrencies, Members were generally supportive of Chairman Clayton’s work. Notably, Rep. Davidson (R-OH-8) said his office is working on an ICO related bill to provide certainty and clarity in the space. Chairman Clayton said “All of [the SEC’s] guidance and our enforcement actions are rooted in a well-tested approach to the raising of capital in the United States. I can’t be more clear about this—I am not going to advocate for any fundamental changes in the way that we raise capital to accommodate technology. Technology can make it more efficient, but I’m not going to change the rules because we have a new technology.”

Wells Fargo is the Latest Bank to Prohibit Cryptocurrency Purchases With its Credit Cards
Wells Fargo announced via an emailed statement that it has banned credit card cryptocurrency purchases. Although the measure is called temporary—a spokesperson said Wells Fargo would watch how the market evolves—there is no indication of a reversal in the near future. Many banks, including Citigroup, JPMorgan Chase, and Bank of America, have taken similar steps as the volatile cryptocurrency market has created increased repayment risk.

US Department of Justice is Investigating Cryptocurrency Price Manipulation

The DOJ reportedly has opened a criminal probe into potential price manipulation of Bitcoin and other cryptocurrencies, particularly during the 2017 period of rapid price increases. The investigation is focused on illegal practices such as spoofing (flooding the market with fake orders to trick other traders into buying or selling) and wash trading (trading with oneself to give a false impression of market demand). Cryptocurrency industry leaders recognize that growth could be constrained if investors conclude that trading platforms create a “buyer beware” environment.