Regulatory and Legislative Developments

On Wednesday, December 12, 2018, the D.C. Bar hosted a panel to discuss current developments in the world of crypto.  Among the panelists were two senior SEC officers: Jonathan Ingram, Deputy Chief Counsel, Division of Corporation Finance, and Jennifer Leete, Assistant Director, Division of Enforcement.  Also participating on the panel was Era Anagnosti, a former senior manager in the Division of Corporation Finance of the SEC who in part oversaw the process relating to, among other things, various crypto-related registration filings.  The following is a summary of certain topics discussed at the panel regarding both corporate finance and enforcement as well as some key takeaways.

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U.S. Developments

Congressmen Introduce Legislation to Define “Digital Token” Under the Securities Laws

On December 20, 2018, two congressmen introduced the “Token Taxonomy Act” (H.R. 7356) before the 115th Congress in an effort to define “digital token” under the federal securities laws.  H.R. 7356 was introduced by Rep. Warren Davidson (R-Ohio) and Rep. Darren Soto (D-Florida) and seeks to clarify that the Securities Act of 1933 (the “Securities Act”) and the Securities Exchange Act of 1934 (the “Exchange Act”) would not apply to cryptocurrencies if they meet a new definition of “digital token” that H.R. 7356 would add to the Securities Act.  H.R. 7356’s definition of “digital token” encompasses decentralized tokens that are not a representation of a financial interest in a company (i.e., equity, debt, or revenue share).

H.R. 7356 also makes several changes related to the custody of “digital tokens.”  For instance, H.R. 7356 adds the phrase “provides custodial services” to the definition of “bank” under both the Investment Advisers Act of 1940 (the “Advisers Act”) and the Investment Company Act of 1940 , which in turn could affect potential “qualified custodians” for digital tokens under the Custody Rule (Rule 206(4)-2) of the Advisers Act.  H.R. 7356 also instructs the U.S. Securities & Exchange Commission (“SEC”) to amend Exchange Act Rule 15c3-3, which addresses the custody of securities by broker-dealers, by asserting that a broker-dealer’s requirement to maintain a satisfactory control location for clients’ digital assets is fulfilled through public key cryptography and following commercially reasonable cybersecurity practices.  Finally, H.R. 7356 would direct the Internal Revenue Service to address the taxation of cryptocurrencies resulting from certain exchanges of virtual currencies.

H.R. 7356 has been referred to both the House Committee on Financial Services and the House Ways and Means Committee; however, the 115th Congress will formally come to a close on January 2, 2019 and any legislation still pending would need to be reintroduced before the 116th Congress for renewed consideration.


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On September 24, 2018, the French data protection authority, Commission Nationale de l’Informatique et des Libertés (CNIL), became the first data protection authority to issue written guidance on the intersection of the use of blockchain technology and the General Data Protection Regulation (GDPR).  Due to the decentralized and permanent nature of the blockchain, there is an inherent tension between blockchain technology and the GDPR, particularly with respect to data subject rights and data storage limitation principles.  Therefore, the CNIL guidance provides some welcome clarification on how it views these inherent tensions, although the CNIL left open certain important issues that will require deeper analysis and explanation in the future.  The summary below has been updated to reflect the English translation of the CNIL guidance released on November 8, 2018. Our high-level takeaways based on the CNIL guidance are as follows:

  • The legal analysis of whether the GDPR applies to a blockchain must be conducted on a participant-by-participant basis. Some participants on a blockchain may be subject to the GDPR while others may not.
  • The greater the ability of a participant to intervene and influence blockchain transactions, the more likely such a participant is subject to the GDPR.
  • Whether a participant is a controller or a processor as such terms are defined under the GDPR is a determination based on the particular facts and circumstances, influenced by the architecture of the blockchain and the types of users who engage with it.
  • Data minimization principles apply to some but not all aspects of blockchain technology. Notably, there is no data minimization requirement for public addresses and public keys.


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Through their recent actions and statements, the Securities and Exchange Commission (SEC) has further clarified their position with respect to digital assets and ICOs. Following on from earlier enforcement efforts throughout 2017 and 2018, the SEC Enforcement Division settled cases with AirFox and Paragon, two issuers of unregistered securities in tokenized form, in addition to

U.S. Developments

SEC Remarks on International Virtual Currency Enforcement

On December 5, 2018, Steven Peikin, Co-Director of the Division of Enforcement at the U.S. Securities and Exchange Commission (“SEC”), gave a speech at the IOSCO/PIFS-Harvard Law School Global Certificate Program for Regulators of Securities Markets on the topic of international cooperation in the enforcement of the US securities laws. In his remarks, Mr. Peikin described the SEC’s recent enforcement activities related to cryptoassets and initial coin offerings (“ICOs), and the importance of international assistance in reaching ICO sponsors in foreign jurisdictions.

In his remarks, Mr. Peikin stated that the Division of Enforcement sees two separate types of securities law violations in the ICO space. “First, we see ICOs that meet the definition of a security, but are being sold, brokered, or traded to U.S. investors without complying with the registration requirements of the federal securities laws. Second, we see ICOs that appear to be outright frauds -where the issuers are using excitement around the cryptoasset space to simply rip off money from investors.” Mr. Peikin commented that international cooperation has been essential to the SECs enforcement efforts because the sponsors of ICOs are often located outside the United states.


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On November 28, 2018, the U.S. Department of Treasury’s Office of Foreign Assets Control (OFAC), announced an action against two Iranian citizens, Ali Khorashadizadeh and Mohammad Ghorbaniyan, who facilitated the exchange of bitcoin ransom payments on behalf of Iranian malicious cyber actors.  This client update provides an overview of the OFAC action and identifies certain key issues raised by OFAC’s addition of digital currency addresses as associated information for the listings of Khorashadizadeh and Ghorbaniyan on the OFAC Specially Designated Nationals and Blocked Persons List (SDN list).

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U.S. Developments

Regulation

Upcoming Bitcoin exchange-traded funds (“ETF”) Decisions

On January 4, 2018, NYSE Arca filed a proposed rule change to list 9 Bitcoin ETFs. Subsequently, the time for the Security Exchange Commission (“SEC”) to approve or disapprove was pushed back in March, April, July, and September. On August 22, 2018, the SEC disapproved the listings and the rule change. The following day, the SEC notified NYSE that it would be reviewing the ETFs pursuant to Rule 431 and staying the August 22 order. The ETF applications came from ProShares, Direxion, and GraniteShares.


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On October 11, 2018, the U.S. Department of the Treasury’s Financial Crimes Enforcement Network (FinCEN) released an advisory (the Advisory) intended to help money services businesses (MSBs) and foreign financial institutions better understand how U.S. sanctions on Iran affect their compliance obligations under the Anti-Money Laundering/Combating the Financing of Terrorism (AML/CFT) rules and under the U.S.-Iran sanctions enforced by the U.S. Department of the Treasury’s Office of Foreign Asset Controls (OFAC).[1]

While Iran has historically relied upon, among other things, precious metals, such as gold, to evade sanctions and to market Iranian goods abroad, FinCEN views virtual currency as another commodity that Iranians may rely on to avoid sanctions.  Since 2013, Iranians have participated in more than $3.8 million in bitcoin-denominated transactions annually.  As a result, companies subject to U.S. regulation that participate in the virtual currency markets should pay careful attention to the Advisory.

To confirm the importance of the Advisory, OFAC separately issued the Advisory to all persons who subscribe to OFAC updates and listed the Advisory on its website.  This, together with the discussion of OFAC obligations within the Advisory, demonstrates that FinCEN and OFAC may cooperate on enforcement of these obligations.  As a reminder, U.S. sanctions prohibit U.S. persons and U.S.-owned or -controlled foreign entities from entering into transactions involving Iran, the Government of Iran, or Iranian financial institutions.[2]


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U.S. Developments

Regulatory Updates

FinCEN Issues Advisory on Illicit Iranian Activities

On October 11, 2018, the U.S. Treasury Department Financial Crimes Enforcement Network (“FinCEN”) issued an advisory to help money services businesses  and foreign financial institutions better understand the U.S. Anti-Money Laundering/Combating the Financing of Terrorism (“AML/CFT”) risks related to Iranian activity.  The report encourages financial institutions to “consider reviewing blockchain ledgers for activity that may originate or terminate in Iran” and “utilize technology created to monitor open blockchains and investigate transactions to or from P2P exchange platforms.”  It also reminds foreign companies that “a non-U.S.-based exchanger or virtual currency provider doing substantial business in the United States is subject to AML/CFT obligations and OFAC jurisdiction.”  The U.S. Treasury Department Office of Foreign Asset Controls (“OFAC”), which administers the U.S. sanctions programs, distributed this advisory on behalf of FinCEN to those who subscribe to OFAC updates.  This shows a level of cooperation between these two agencies, as does the discussion of OFAC jurisdiction in the FinCEN advisory.             
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U.S. Developments

Federal Bank Regulators Issue Joint Statement on Collaborative BSA/AML Compliance

On October 3, 2018, a group of federal bank regulators and the Financial Crimes Enforcement Network (“FinCEN”) announced in a joint statement that banks and credit unions could collaborate and share resources to manage their Bank Secrecy Act (“BSA”) and anti–money laundering (“AML”) obligations.  Sharing resources through a collaborative arrangement helps banks to meet their BSA/AML compliance obligations by providing access to specialized expertise, at a reduced cost, that may be difficult to obtain in some markets.  The joint statement provides examples and guidance for how banks can manage their obligations more effectively and efficiently.  Nothing in the joint statement alters the four pillars of a bank’s BSA/AML compliance program: (1) a system of internal controls to ensure ongoing compliance; (2) independent testing of BSA/AML compliance; (3) designation of a BSA compliance officer; and (4) training of appropriate personnel.  With appropriate limits, each of these pillars can be addressed through a collaborative arrangement between banks.
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