Weekly Focus

• S. Department of Homeland Security Issues Challenge for Development of Trusted User Interface for Digital Wallets
• Kraken Announces Approval From Wyoming Division of Banking for a Special Purpose Depository Institution Charter
• CFTC Provides Temporary No-Action Relief to Tassat From SEF Reinstatement Requirements
• FinCEN Seeks Public Comments on AML Program Requirements
• CSBS Announces “One Company, One Exam” for Licensed Payment Firms
• CFTC Files Complaint in Alleged Fraudulent Digital Asset Scheme
• SEC Brings Charges against T.I. for Violations of Securities Laws
• SEC Brings a Complaint Against Individuals and Two Companies Relating to Token Offerings
• FAFT Issues Report on Virtual Assets Red Flag Indicators of Money Laundering and Terrorist Financing
• Gibraltar Issues Updated Guidance Notes for DLT
• Report: New Zealand Updates Tax Guidance for Crypto Assets
• Report: Bahamas Planning to Formally Launch Its CBDC as Soon as October 2020
• Report: India Considering a New Law Banning Cryptocurrency Trading
• Nigeria Issues Statement on Digital Assets and Their Classification and Treatment
• EU Committee Legislative Proposal on the Regulation of Crypto-Assets

U.S. Developments

Federal and State Regulatory Developments

U.S. Department of Homeland Security Issues Challenge for Development of Trusted User Interface for Digital Wallets

The U.S. Department of Homeland Security (DHS) issued a formal challenge on September 8, 2020, for the design of a better user interface for digital wallets that store credentials. The total cash prize offered is $25,000, and the submission deadline is October 15, 2020. DHS is looking for a user interface design that supports best practices for visual consistency, ensures security and privacy, is interoperable, and can be integrated with existing back-end processes. The user interface needs to instill confidence in the user of the digital wallet that their online interactions are secure and that the parties they are interacting with are legitimate. DHS’s stated goal in issuing this challenge is to foster better user interfaces for digital wallets to be used by DHS and anyone in the community.

A link to the challenge webpage can be found here.

Kraken Announces Approval From Wyoming Division of Banking for a Special Purpose Depository Institution Charter

On September 16, 2020, the digital asset company Kraken announced that it had received approval from the Wyoming Division of Banking for a special purpose depository institution (SPDI) charter. In 2019, the Wyoming Legislature authorized the chartering of SPDIs. SPDIs are banks that receive deposits and conduct other incidental activities, including fiduciary asset management, custody, and related activities. Per the Wyoming Division of Banking, SPDIs may resemble custody banks in that these institutions may focus on fiduciary activities, safekeeping, asset management, and servicing. Excluding incidental activities like fiduciary services, asset management and custody, SPDIs are prohibited from making loans with customer deposits of fiat currency and therefore are not required to obtain insurance from the Federal Deposit Insurance Corporation.

A link to the Kraken press release can be found here. A link to the Wyoming Division of Banking description of SPDIs can be found here.

CFTC Provides Temporary No-Action Relief to Tassat From SEF Reinstatement Requirements

On September 15, 2020, the Division of Market Oversight of the Commodity Futures Trading Commission (CFTC) issued temporary no-action relief to Tassat Derivatives LLC from swap execution facility (SEF) reinstatement requirements, subject to certain conditions. Previously, in November 2019, the CFTC issued a transfer order approving the transfer of trueEX LLC’s SEF registration to its affiliate, Tassat. In addition to the SEF registration, Tassat acquired all work product related to the development of a physically-deliverable Bitcoin swap contract, which Tassat intends to list. Since the issuance of the transfer order, Tassat stated that it has encountered internal and external delays, including some relating to the COVID-19 pandemic, which have impacted the listing of its Bitcoin swap contract. During this time, Tassat continued to prepare for the launch of its Bitcoin swap contract, however, on August 1, 2020, pursuant to CFTC Regulation 40.1(f), Tassat was deemed dormant because it had no trading for a period of 12 consecutive months. As a result, Tassat was required to seek reinstatement of its SEF registration in order to continue to operate. Thus, Tassat requested relief from the reinstatement requirements so that it could list its contract for trading prior to a CFTC decision on reinstatement of its registration. Tassat stated that it intends to list the Bitcoin swap contract in the fourth quarter of 2020. The temporary no-action relief will end at the time the CFTC makes a determination with respect to Tassat’s application for reinstatement.

A link to the CFTC press release can be found here, and a link to the no-action letter can be found here.

FinCEN Seeks Public Comments on AML Program Requirements

FinCEN is seeking public comments with respect to updating its AML Program requirements to modernize and address the evolving threats of illicit finance. Specifically, FinCEN wants to further clarify that an AML Program assesses and manages risk in accordance with the financial institution’s risk assessment and to provide more clarity on compliance obligations under the Bank Secrecy Act generally.

For additional information regarding FinCEN’s request for public comments, please see our partner blog’s coverage here.

CSBS Announces “One Company, One Exam” for Licensed Payment Firms

The Conference of State Bank Supervisors (CSBS) announced the launch of a new “One Company, One Exam” program that allows payment first to undergo a single, comprehensive exam as part of its regulatory requirements. This single exam will be led by one state that will oversee a group of examiners from around the country. The CSBS believes that this will allow industry experts to gain more insight during a licensee’s examination, while simultaneously freeing up state resources. The program was the result of the CSBS Fintech Industry Advisory Panel, which has highlighted the need to increase state-by-state exam coordination.

For additional information regarding CSBS’ announcement, please see our partner blog’s coverage here.

Litigation Developments

CFTC Files a Complaint Relating to an Alleged Fraudulent Digital Asset Scheme

On September 11, 2020, the CFTC filed a complaint in the U.S. District Court for the Southern District of Texas against four individuals for fraudulently soliciting funds from customers to speculate in Bitcoin price movements. The complaint alleges that from at least August 2016 through October 2017, the defendants falsely represented to actual and potential customers that their business employed “master traders” who had years of experience trading “crypto currency,” and used “cutting edge trading robots” to trade Bitcoin for customers “24 hours a day, 7 days a week.” The CFTC also alleged that the defendants falsely represented that customer earnings would increase based on the amount of their deposits. According to the CFTC’s complaint, customers were also falsely promised a bonus for referring others, in the form of a multi-level marketing scheme. To conceal their fraud, the defendants allegedly caused misleading trading statements to be posted online. The CFTC seeks disgorgement of ill-gotten gains, civil monetary penalties, permanent registration and trading bans, and a permanent injunction against further violations of the Commodity Exchange Act and the CFTC’s regulations.

A link to a CFTC’s press release, which includes a link to the complaint, can be found here.

SEC Brings Charges against T.I. for Violations of Securities Laws

On September 11, 2020, the SEC settled an enforcement action with the rapper and actor, T.I., for allegedly offering and selling certain tokens on his social media accounts, falsely claiming to be an owner of a token issuer, and encouraging his followers to invest in the token issuer’s unregistered initial coin offering (ICO). The SEC alleged that these posts provided links to the ICO website to facilitate investor participation. Per the SEC, T.I. further arranged for a friend to promote the ICO on his own social media accounts. T.I. provided his friend with language that referred to the ICO as T.I.’s “new venture.” Under the terms of the settlement, the SEC alleged that T.I. violated certain provisions of the Securities Act by offering and selling securities without having a registration statement filed (or in effect) or qualifying for an exemption from registration, and he had to pay a fine of $75,000.

A link to the SEC’s enforcement order with T.I. can be found here.

SEC Brings a Complaint Against Individuals and Two Companies Relating to Token Offerings

On September 11, 2020, the SEC brought a complaint in the U.S. District Court for the Northern District of Georgia against two companies and several individuals for alleged actions in connection with two token offerings. First, the SEC’s complaint alleges the two companies conducted unregistered offerings of securities in the course of their ICOs. Second, it alleges that one of the individuals (the “primary individual”) promised to build a digital streaming platform for one company, and a digital-asset trading platform for the other company. Per the SEC, the primary individual allegedly misappropriated the funds raised in the two ICOs. The complaint also alleges that the primary individual secretly transferred tokens to himself and sold them into the market, and that he engaged in trading to inflate the price of tokens. Third, the SEC’s complaint alleges that a social media manager for T.I. offered and sold tokens on T.I.’s social media accounts, and fourth, that two other individuals promoted tokens without disclosing they were promised compensation in return. The SEC charged the primary individual with violating registration, antifraud, and anti-manipulation provisions of the federal securities laws. The two companies were charged with violating registration and anti-fraud provisions. T.I.’s social media manager was charged with violating registration provisions, and the two final individuals were charged with violating registration and anti-touting provisions. The U.S. Attorney’s Office for the Northern District of Georgia brought criminal charges against the primary individual in a parallel action.

A link to the SEC’s complaint can be found here.

International Developments

FATF Issues Report on Virtual Assets Red Flag Indicators of Money Laundering and Terrorist Financing

On September 14, 2020, the Financial Action Task Force (FATF) issued a report entitled, “Virtual Assets Red Flag Indicators of Money Laundering and Terrorist Financing.” The report is based on over 100 case studies collected by members of the FATF Global Network. It highlights the red flag indicators that could suggest criminal behavior. The key indicators discussed in the report are:

• Technological features that increase anonymity – such as the use of peer-to-peer exchanges websites, mixing or tumbling services, or anonymity-enhanced cryptocurrencies. When introducing these (and other) red flags related to anonymity, FATF noted that “the mere presence of these features in an activity does not automatically suggest an illicit transaction. For example, the use of a hardware or paper wallet may be legitimate as a way to secure VAs against thefts. Again, the presence of these indicators should be considered in the context of other characteristics about the customer and relationship, or a logical business explanation.” FATF’s note here indicates that these anonymity-enhancing features can be supported within compliance programs under the FATF Recommendations with the right tools and controls in place.
• Geographical risks – criminals can exploit countries with weak, or absent, national measures for virtual assets.
• Transaction patterns – that are irregular, unusual or uncommon which can suggest criminal activity.
• Transaction size – if the amount and frequency have no logical business explanation.
• Sender or recipient profiles – unusual behavior can suggest criminal activity.
• Source of funds or wealth – which can relate to criminal activity.

The report complements the FATF guidance for a Risk-Based Approach to Virtual Assets and Virtual Asset Service Providers (June 2019) which explained how to understand the money laundering and terrorist financing risks of virtual assets, how to license and register the sector, actions sectors need to take to know information about their customers, how to store this information securely, and how to detect and report suspicious transactions.

A link to the FATF report can be found here. Please also see our recent discussion of the anti-money laundering regulation of privacy-enabling cryptocurrencies.

Gibraltar Issues Updated Guidance Notes for DLT

On September 17, 2020, the Gibraltar Financial Services Commission (GFSC) published updated Distributed Ledger Technology (DLT) Provider Guidance Notes. In alignment with Gibraltar’s Financial Services Act 2019 and adhering to best practices, the GFSC stated that the updated Guidance Notes seek to provide further information to firms and expand its existing expectations of DLT providers. The September 2020 revisions replaced the initial Guidance Notes published in December 2017. Under the Guidance Notes, GFSC provides guidance on nine distinct subjects: (1) honesty and integrity; (2) customer care; (3) resources; (4) risk management; (5) protection of client assets; (6) corporate governance; (7) systems and securities access; (8) financial crime; and (9) resilience.

A link to the GFSC’s press release can be found here. A link to GFSC’s page providing its Guidance Notes for DLT can be found here.

Report: New Zealand Updates Tax Guidance for Crypto Assets

Per a report in Tax-News on September 16, 2020, New Zealand recently updated its tax guidance for crypto assets. Under its guidance, the New Zealand Inland Revenue states that “cryptoassets are treated as a form of property for tax purposes. While there are different types of cryptoassets, the tax treatment depends on the characteristics and use of the cryptoassets. It does not depend on what they are called.” The guidance then provides more specific instruction on the tax treatment of crypto assets for individuals and for businesses.

A link to the Tax-News report can be found here. A link to the New Zealand Inland Revenue’s crypto asset guidance can be found here.

Report: Bahamas Planning to Formally Launch Its CBDC as Soon as October 2020

On September 15, 2020, Bloomberg reported that the Bahamas is planning to launch its central bank digital currency (CBDC) nationwide as soon as October 2020. Labeled Project Sand Dollar, the Bahamas has piloted the program on certain islands since late 2019. The Bahamian CBDC is structed as a digital fiat version of the Bahamas dollar rather than a stablecoin. It is an identifiable liability of the Central Bank of the Bahamas, equivalent in every respect to the paper currency. Its value is the same as the existing currency, and it does not derive any value separate from the external reserves backing afforded to the Central Bank’s demand liabilities. In addition, an official of the Central Bank of the Bahamas has been reported as saying that new Sand Dollars will only be minted as demand grows and as paper dollars are retired so as not to alter the country’s monetary policy.

A link to the Bloomberg article (paywall may apply) can be found here. A link to the Project Sand Dollar whitepaper can be found here.

Report: India Considering a New Law Banning Cryptocurrency Trading

On September 15, 2020, Bloomberg reported that India is considering the introduction of legislation that would ban cryptocurrency trading. Per the report, the proposed legislation may first be discussed by the federal cabinet before it is then submitted to the Indian parliament. This legislative development would come after several other cryptocurrency-related legal changes in India during 2020. As noted in our prior coverage, in May 2020, India permitted banking for cryptocurrency related businesses, and in March 2020, the Indian Supreme Court struck down a ban on cryptocurrency trading put in place by the Reserve Bank of India in 2018.

A link to the Bloomberg article (paywall may apply) can be found here. A link to our coverage can be found here.

Nigeria Issues Statement on Digital Assets and Their Classification and Treatment

In a statement dated September 14, 2020, the Nigerian Securities and Exchange Commission (SECN) issued a statement on digital assets, which is intended to provide clarification on their treatment in Nigeria. The SECN stated that it will regulate crypto-assets when the character of the investments qualifies as securities transactions. It then provided guidance on what will be regulated:

• Virtual crypto assets are securities, unless proven otherwise.
• Issuers or sponsors are expected to satisfy the burden of proving that the virtual assets do not constitute securities by making an initial assessment filing. However, where the finding of the Commission is that the virtual assets are indeed securities (not structured to be exclusively offered through crowdfunding portals or other exempt methods), then the issuer or sponsor must register the digital assets.
• The registration process for virtual assets will involve a two-prong approach—an initial assessment filing to satisfy the burden of proof and a filing for registration proper.
• All Digital Assets Token Offering (DATOs), ICOs, Security Token ICOs, and other Blockchain-based offers of digital assets within Nigeria or by Nigerian issuers or sponsors or foreign issuers targeting Nigerian investors, shall be subject to the regulation of SECN. Existing digital assets offerings prior to the implementation of the regulatory guidelines will have three months to either submit the initial assessment filing or documents for registration proper, as the case may be.

The statement defines “crypto asset” to mean “a digital representation of value that can be digitally traded and functions as (1) a medium of exchange; and/or (2) a unit of account; and/or (3) a store of value, but does not have legal tender status in any jurisdiction. A Crypto Asset is – neither issued nor guaranteed by any jurisdiction, and fulfils the above functions only by agreement within the community of users of the Crypto Asset; and Distinguished from Fiat Currency and E-money.” In addition, the statement provides a categorical chart of the treatment of different types of digital assets.

A link to the statement can be found here.

EU Committee Legislative Proposal on the Regulation of Crypto-Assets

A draft legislative proposal from the European Parliament’s Committee on Economic and Monetary Affairs (ECON) would seek to provide standards for the regulation of crypto-assets across the European Union’s member states. The proposal, which covers crypto-assets outside existing EU financial services legislation, as well as e-money tokens, has four general and related objectives. The first objective is one of legal certainty. ECON asserts in the draft proposal that for crypto-asset markets to develop within the EU, there is a need for a sound legal framework, clearly defining the regulatory treatment of all crypto-assets that are not covered by existing financial services legislation. The second objective is to support innovation. Per its draft proposal, ECON felt that to promote the development of crypto-assets and the wider use of DLT, it may be necessary to put in place a safe and proportionate framework to support innovation and fair competition. The third objective is to instill appropriate levels of consumer and investor protection and market integrity given that crypto-assets not covered by existing financial services legislation present many of the same risks as more familiar financial instruments. The fourth objective is to ensure financial stability. ECON explains in its draft proposal that while some crypto-assets have a limited scope and use, others, such as stablecoins, have the potential to become more widely accepted and potentially systemic.

A link to the draft legislative proposal can be found here.