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  • Bitcoin and ether not considered securities by SEC

    Securities

    On June 14, the Director of the SEC Division of Corporation Finance, William Hinman, stated that the SEC does not consider the cryptocurrencies bitcoin and ether to be securities. In his remarks at the Yahoo Finance All Markets Summit, Hinman emphasized a number of factors that are considered when assessing whether a cryptocurrency or ICO should be considered a security. These factors include, primarily, whether a third party drives the expectation of a return—the central test used by the Supreme Court in SEC v. W.J. Howey Co.. According to Hinman, bitcoin’s and ether’s networks are decentralized without a central third party controlling the enterprise and, thus, applying the disclosure rules of federal securities laws to these cryptocurrencies would add little value to the market. Hinman did note that whether something is considered a security is not static and emphasized that if a cryptocurrency were to be placed into a fund and interests were sold, the fund would be considered a security.

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  • CFTC, NASAA enter cryptocurrency, fraud information sharing partnership; CFTC releases virtual currency derivative guidance

    Securities

    On May 21, the U.S. Commodity Futures Trading Commission (CFTC) announced it had signed a mutual cooperation agreement with the North American Securities Administrators Association (NASAA) to increase cooperation and information sharing on cryptocurrencies and other potential market fraud. The memorandum of understanding (MOU) is designed to “assist participants in enforcing the Commodity Exchange Act, which state securities regulators and state attorneys general are statutorily authorized to do alongside the CFTC,” leading to the possibility of additional enforcement actions brought under other areas of law. In order to receive the benefits—including investigative leads, whistleblower tips, complaints, and referrals provided to NASAA members by the CFTC—individual jurisdictions will be required to sign the MOU.

    The same day, the CFTC’s Division of Market Oversight and Division of Clearing and Risk (DCR) issued a joint staff advisory providing guidance on several enhancements to which CFTC-registered exchanges and clearinghouses should adhere when listing derivatives contracts based on virtual currencies. The advisory addresses the following five key areas for market participants: (i) “[e]nhanced market surveillance”; (ii) “[c]lose coordination with CFTC staff’; (iii) “[l]arge trader reporting”; (iv) “[o]utreach to member and market participants”; and (v) “Derivatives Clearing Organization risk management and governance.” According to the DCR director, the information provided is intended in part, “to aid market participants in their efforts to design risk management programs that address the new risks imposed by virtual currency products . . . [and] to help ensure that market participants follow appropriate governance processes with respect to the launch of these products.”

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  • CFTC Commissioner says FSOC should take lead in future fintech policy regulation

    Fintech

    On May 3, Commodities Futures Trading Commission (CFTC) Commissioner Rostin Behnam emphasized that the Financial Stability Oversight Council (FSOC) should take the lead in evaluating the future of oversight and regulation of the fintech industry. In his keynote address to a financial regulatory conference in Washington, D.C., Behnam highlighted the rise of cryptocurrencies as an example of the need to “identify and craft an appropriate path forward for ensuring that legal issues resulting from these technologies are identifiable and solvable before they cross the horizon.” According to Benham, FSOC, due to its mandate in the Dodd-Frank Act, has the authority to, among other things, convene financial regulators for collaboration and propose policy direction based on input from all stakeholders. Acknowledging the need for all market participants and regulators to be aligned when it comes to fintech regulation, Benham stated that “anything less than decisive action by policymakers in the short term” will lead to uncertainty.

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  • CFTC stresses importance of coordinating regulatory requirements with the SEC

    Fintech

    On May 2, the U.S. Commodity Futures Trading Commission (CFTC) reiterated the importance of coordinating and harmonizing regulatory requirements with the SEC. In prepared remarks issued before FIA’s 40th Annual Law and Compliance Conference, CFTC Commissioner Brian Quintenz stated that its internal cryptocurrency enforcement task force will work in cooperation with its SEC counterparts on cases involving virtual currency. “Both agencies’ Divisions of Enforcement have demonstrated their commitment to work closely to prosecute fraud and ensure that differences in product nomenclature do not enable bad actors to slip through jurisdictional cracks,” Quintenz said. The agencies plan to update their existing 10-year-old memorandum of understanding to facilitate the sharing of information related to, among other things, swaps and security-based swaps data, fintech developments, and market events.

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  • 11th Circuit denies motion to compel arbitration; rules claims relate to BSA violations and not to terms of user agreement

    Courts

    On April 23, the U.S. Court of Appeals for the 11th Circuit upheld a district court’s decision to deny a global money services business’s motion to compel arbitration under the doctrine of equitable estoppel. According to the unpublished opinion, the plaintiff-appellee—a customer of a now defunct cryptocurrency exchange (defunct exchange)—filed a proposed class action against the money services business and the CEO of the defunct exchange, alleging that when the money services business liquidated bitcoin into cash for two accounts that the CEO opened, it aided and abetted the defunct exchange’s breach of fiduciary duty and the CEO’s theft of customer assets. The customer claimed that the money services business had a duty under the Bank Secrecy Act (BSA) to monitor or investigate the CEO’s actions, detect the CEO’s theft of customer assets, and report the CEO’s suspicious activity to appropriate authorities. However, the business argued that when the CEO opened his accounts, he agreed to be bound by an arbitration clause in the user agreement, and that therefore, under the doctrine of equitable estoppel, the customer was bound by the arbitration clause because the customer’s claims were based on the user agreement. The district court rejected the business’s argument and found that the customer was not asserting any rights or benefits that arose out of the user agreement but rather on duties created under the BSA. The 11th Circuit affirmed the district court’s decision, stating that the customer’s claims were predicated on duties the defendant-appellant owed under federal statutes and regulations as well as state common law and not on enforcing the terms of the user agreement, and, therefore, the customer could not be compelled to arbitrate the claim.

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  • New York Attorney General launches cryptocurrency integrity initiative

    Fintech

    On April 18, the New York Attorney General’s office announced the launch of an initiative designed to protect virtual currency investors and increase transparency and accountability within the cryptocurrency industry. Attorney General Eric T. Schneiderman sent questionnaires to 13 virtual currency trading platforms, requesting information on their operations, policies, and internal controls as part of a “fact-finding inquiry.” “[T]oo often, consumers don't have the basic facts they need to assess the fairness, integrity, and security of these trading platforms,” the Attorney General stated. The Virtual Markets Integrity Initiative asks the trading platforms to disclose several categories of information, including ownership and control information, operation and fees, trading policies and procedures, internal controls, and privacy and money laundering risks and safeguards. Responses will be analyzed, compared across platforms, and presented to the public. Questionnaires are due May 1.

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  • Massachusetts securities division halts five initial coin offerings

    Securities

    On March 27, Massachusetts’s Office of the Secretary of the Commonwealth Securities Division (Division) entered into separate consent orders with five companies that allegedly violated the Massachusetts Uniform Securities Act by promoting initial coin offerings (ICOs) using unregistered securities. The five companies, which conduct business in Massachusetts, offered the ICOs via websites, including social media platforms. Under the terms of the consent orders, the companies are prohibited from selling unregistered or non-exempt securities in the state and are censured by the Division.

    Visit here for additional InfoBytes coverage on ICOs.

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  • FTC challenges virtual currency “chain referral schemes”—creates new working group

    Fintech

    On March 16, the FTC announced that a U.S. District Court for the Southern District of Florida granted a temporary restraining order against four individuals who allegedly promoted cryptocurrency “chain referral schemes” in violation of the FTC Act. According to the complaint, the defendants falsely promised that by paying a small sum in virtual currency to enroll, such as bitcoin or Litecoin, the participant could earn significant returns. Three of the defendants promoted schemes that claimed participants could turn $100 into $80,000 in monthly income based on recruiting additional participants, when in actuality most of the participants failed to recoup their initial investments. Additionally, the fourth defendant promoted another scheme, which promised virtual currency investors a fixed rate of return on bitcoin investments in a passive investment operation and a multilevel investment program which participants would receive a commission for recruiting more investors. The scheme allegedly ended within two months of opening and many investors failed to recover the initial investments.

    On the same day, the FTC announced a new FTC Blockchain Working Group, which will (i) “build on FTC staff expertise in cryptocurrency and blockchain technology through resource sharing and by hosting outside experts”; (ii) “facilitate internal communication and external coordination on enforcement actions and other related projects”; and (iii) “serve as an internal forum for brainstorming potential impacts on the FTC’s dual missions and how to address those impacts.” The announcement highlighted the properties of cryptocurrencies that make the payment form susceptible to scammers, including the fact that it can be transferred electronically without requiring validation from a trusted third party source. 

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  • House Financial Services Committee holds hearing on potential regulation of cryptocurrencies and ICOs

    Federal Issues

    On March 14, the House Financial Services Subcommittee on Capital Markets, Securities, and Investment held a hearing entitled “Examining Cryptocurrencies and ICO Markets” to discuss recommendations for Congress concerning the regulation of cryptocurrencies and initial coin offering ("ICO") markets. Subcommittee Chairman Bill Huizenga, R-Mich., opened the hearing by stating that “[c]ryptocurrencies and ICOs provide an innovative vehicle for startups to potentially access capital and grow their businesses,” and emphasized that potential regulation of this market should not stifle innovation in the area of digital currencies and capital formation.

    The hearing’s four witnesses offered numerous insights into the shaping of regulation in the crytopcurrency and ICO markets. The witnesses discussed emphasizing the potential of ICOs for U.S. investors, disclosures in the ICO market, and the need for regulation to be clear with definitive classification guidelines. Additionally, witnesses commented on the unanticipated negative consequences of regulation, including the risk associated with developing a regulatory framework around the cryptocurrency market since the market is still emerging. The hearing included discussion on the functions of cryptocurrency and the ICO market, including distinguishing an ICO offering from a traditional Initial Public Offering (IPO) and the different uses of “scarce tokens,” such as bitcoin, which would impact whether cryptocurrencies were regulated as commodities or securities. 

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  • District Court recognizes CFTC authority to regulate virtual currency as commodities

    Fintech

    On March 6, the U.S. District Court for the Eastern District of New York granted the CFTC’s request for preliminary injunction against defendants alleged to have misappropriated investor money through a cryptocurrency trading scam, holding that the CFTC has the authority to regulate virtual currency as commodities. The decision additionally defined virtual currency as a “commodity” within the meaning of the Commodity Exchange Act (CEA) and gave the CFTC jurisdiction to pursue fraudulent activities involving virtual currency even if the fraud does not directly involve the sale of futures or derivative contracts. However, the court noted that the “jurisdictional authority of CFTC to regulate virtual currencies as commodities does not preclude other agencies from exercising their regulatory power when virtual currencies function differently than derivative commodities.” Under the terms of the order, the defendants are restrained and enjoined until further order of the court from participating in fraudulent behavior related to the swap or sale of any commodity, and must, among other things, provide the CFTC with access to business records and a written account of financial documents.

    Find continuing InfoBytes coverage on virtual currency oversight here.

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