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FinCEN raises major licensing problem for ICOs in new letter to Congress.

Nearly a year ago Coin Center released a report highlighting a looming ambiguity in FinCEN’s interpretation of federal anti-money-laundering laws: whether or not token sellers are money transmitters who are subject to the Bank Secrecy Act and need to do “know your customer” compliance with respect to their buyers, and arguing that any such interpretation would require formal rulemaking. We issued the report in part because we felt that the separate but related discussion over whether token sellers might be issuing securities had overshadowed this issue and left many unaware of the serious legal consequences that could stem from potentially violating the Bank Secrecy Act rather than the Securities Acts.

As it happens, our concerns were well-founded. Today FinCEN released a letter to Senator Ron Wyden clearly indicating that they interpret the relevant laws and regulations such that token sellers are money transmitters:

A developer that sells convertible virtual currency, including in the form of ICO coins or tokens, in exchange for another type of value that substitutes for currency is a money transmitter and must comply.

Make no mistake, this is a highly consequential interpretation. Accordingly, any group or individual developer who both (A) sold newly created tokens to buyers (i.e. had an ICO) involving U.S. residents and (B) failed to register with FinCEN as a money transmitter,and perform the associated compliance KYC/AML obligations, can be charged under a federal felony criminal statute, 18 U.S.C § 1960, with unlicensed money transmission. If found guilty one could face up to five years in prison. Criminal liability may also extend to employees of, and investors in, the business that sold the tokens.

There are important public policy questions at stake here:

  1. Is it wise or appropriate under relevant administrative law to make this substantial change/clarification in interpretation through a letter to a member of Congress interpreting guidance, rather than a public rulemaking or new legislation?
  2. Is it constitutional to mandate private data collection from people who are not financial intermediaries in the traditional sense, and may be better analogized to persons selling a new invention to buyers in a person to person transaction?

It is very difficult to take this letter and derive from it a clear picture of FinCEN’s interpretation. Only one footnote is given to explain their legal reasoning:

See, FIN-2013-G001 (explaining that convertible virtual currency administrators and exchangers are money transmitters under the BSA), and FIN-2014-R001, Application of FinCEN’s Regulations to Virtual Currency Mining Operations, January 30, 2014 (explaining that persons that create units of virtual currency, such as miners, and use them in the business of accepting and transmitting value are also money transmitters).

This footnote does not tell us whether FinCEN classifies these sellers as “exchangers” or “administrators,” two distinct types of money transmitter identified by the 2013 guidance. As we describe in our 2015 paper, there are compelling reasons why a developer selling a token is not an administrator: they cannot both issue and redeem the tokens that they sell, like a Bitcoin miner they merely put them into circulation and cannot claw them back (assuming they have sold an actual decentralized token and not some promise of future tokens). There are also good reasons why a developer selling a token is not an exchanger. They may sell but they do not do so as a business dedicated to exchange; they sell as one individual or entity would sell any valuable investment or commodity to another person, for their own purposes rather than to provide third-party money transmission services between two customers or people.

The bulk of the cited 2014 guidance on miners explains why a Bitcoin miner is not a money transmitter if they merely create the units. To be a money transmitter a miner must also sell them as part of an exchange business, rather than merely sell them on their own behalf. We can only assume that FinCEN believes that developers selling tokens are “in the business of accepting and transmitting value” in addition to creating new tokens. No doubt a developer selling tokens is accepting value, but who are they transmitting it to aside from themselves?

This is a complicated and consequential legal interpretation, and one that should be discussed, unpacked, and eventually finalized in a more formal and transparent setting, e.g. a rulemaking. A footnote in a letter to a Congressman should not suffice.

In the conclusion to our report from last May we outlined Coin Center’s position on these matters:

Common understanding suggests that money transmission is an act performed by an intermediary, a person who stands between two parties accepting money from one and transmitting it to another. When a person transacts directly with another person, giving them money for any reason—as a gift, a payment, a donation, a grant, a tip—she does not play this intermediary role. She does not hold herself out as a trusted third party. She is engaged in private, personal transactions rather than being engaged as a third party to the transactions of others.

Deputizing third-party intermediaries to surveil their users on behalf of the government is a policy choice Congress made long ago; one that carries risks to individual privacy but also potential benefits to national security and peace. It’s a tradeoff Congress made back in the 1970s and it isn’t going away anytime soon. However, mandating the same kind of surveillance from individuals who are not intermediaries—who are merely transacting on their own account with another citizen—is a considerable recalibration of the balance between privacy and security. It tips the scales against personal privacy and may even be unconstitutional.

This is not a recalibration that should be made merely by issuing administrative rulings or guidance, the approach thus far taken by FinCEN when dealing with these questions. Instead, FinCEN should clarify that selling decentralized virtual currency on one’s own account does not constitute money transmission, regardless of whether the purpose of that sale is to pay a merchant, to sell tokens received through mining, or—indeed—to sell one’s own newly invented decentralized token.

Should FinCEN or Congress wish to regulate this activity for financial surveillance purposes, that change must be the subject of a larger, more public debate within a notice and comment rulemaking or an amendment to the statutory law itself. Only those formal processes can enable necessary debate over financial surveillance and the constitutionality of warrantless search.

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Photos from the 2019 Coin Center Annual Dinner now available.

Thank you to everyone who came out for our most successful fundraising gala yet. It was a pleasure to host some of the best and brightest from the cryptocurrency world for a lighthearted night of fun. And once again, thank you to our generous sponsors and guests for helping to support Coin Center's vital policy advocacy mission.

Here are some pictures from the event.

Stay tuned for next year’s dinner. Hope to see you there!

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The IRS has told Congress that it will issue new cryptocurrency tax guidance soon.

In a new letter, the IRS Commissioner said he has “made it a priority” to issue additional guidance on crypto taxation.

Last week, Commissioner Charles Rettig responded to an April 11 letter from a bipartisan group of 21 Members of Congress, led by Rep. Tom Emmer, that asked the agency to issue needed guidance on the tax consequences and basic reporting requirements for taxpayers that use virtual currencies. In that response, Commissioner Rettig acknowledged that there are “areas where needed and helpful additional guidance can be provided,” and went on to say:

I share your belief that taxpayers deserve clarity on basic issues related to the taxation of virtual currency transactions and have made it a priority of the IRS to issue guidance. Specifically, your letter mentions (1) acceptable methods for calculation cost basis; (2) acceptable methods of cost basis assignment; and (3) tax treatment of forks. We have been considering these issues and intend to publish guidance addressing these and other issues soon.

We are glad to see that the IRS acknowledges the need for additional clarity on these basic tax questions, which we highlighted and suggested common-sense answers to in our recent report “A Duty to Answer.” We are also happy to see the continued leadership of Rep. Emmer and others in Congress on an issue which affects all U.S. cryptocurrency users.

A direct download of this letter is available here.

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Congress just sent a letter to the IRS about “urgent need for guidance” on crypto taxes.

Today, 21 members of Congress, led by Rep. Tom Emmer, sent a letter asking the agency to issue needed guidance on the tax consequences and basic reporting requirements for taxpayers that use virtual currencies. Congress has now sent four separate letters to the IRS about this issue.

In a statement, Rep. Emmer’s office said:

While initial guidance was provided, ambiguity around basic questions of how taxpayers should calculate and track the basis of their virtual currency holdings is unacceptable. According to a recent report from Coin Center, the 2014 guidance by the IRS failed to address fundamental tax questions, and repeated requests to the IRS for additional clarity have been made by a variety of entities. It also indicates that rather than providing clarity, the IRS has instead increased enforcement activities against taxpayers who “misreport” their cryptocurrency transactions.

Coin Center worked with Rep. Emmer to produce the bipartisan letter, which reflects several of the questions and concerns outlined in our recent report about cryptocurrency taxation, A Duty to Answer. The letter notes that the single piece of crypto tax guidance the IRS has released—the six-page “IRS Virtual Currency Guidance” from early 2014—fails to answer basic questions about crypto taxes, and that taxpayers deserve clarity from the agency. In other words, as the IRS Taxpayer Advocate put it a decade ago, “the IRS has a duty to answer all of the basic questions about transactions undertaken regularly by significant numbers of taxpayers, such as those involving virtual items.” In addition to describing these questions, our report provides common-sense recommendations on how the IRS should answer them.

In signing the letter, Rep. Emmer was joined by the other co-chairs of the Congressional Blockchain Caucus—Reps. Bill Foster, David Schweikert, and Darren Soto—as well as Reps. Patrick McHenry, James P. McGovern, French Hill, Terri Sewell, Warren Davidson, Stephen F. Lynch, Ted Budd, Eric Swalwell, Trey Hollingsworth, Ed Perlmutter, Greg Gianforte, Josh Gottheimer, Mark Meadows, Lance Gooden, Matt Gaetz, Ted S. Yoho, and Bryan Steil.

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Congressional report on cryptocurrency cites multiple Coin Center resources.

Last week, the Congressional Research Service (CRS), which serves as nonpartisan shared staff to congressional committees and Members of Congress and operates solely at the behest of and under the direction of Congress, published “Virtual Currencies and Money Laundering: Legal Background, Enforcement Actions, and Legislative Proposals.”

We were pleased to see that the report cites Coin Center resources four separate times: “Bitcoin: A Primer for Policymakers” twice on the first page, as well as “The Bank Secrecy Act, Cryptocurrencies, and New Tokens: What is Known and What Remains Ambiguous” and “Bitcoin innovators need legal safe harbors.” We will continue to publish materials that advocate for good policy on issues related to public blockchain networks and are glad that they are being read by policymakers.

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We held a briefing in Congress on open cryptocurrency tax questions.

Last week we released a report, A Duty to Answer: Six Basic Questions and Recommendations for the IRS on Crypto Taxes, which examines the state of crypto tax policy in the US and calls on the IRS to address the open issues.

Today we took that message to Congress with a briefing for policymakers on the Hill. Coin Center Senior Research Fellow James Foust presented some of the questions raised in the report, explained Coin Center’s recommended actions for the IRS to address them, and fielded questions related to the nature of UTXOs, forks, and more. For a top-line summary of the report you can read his blog post: It is time for the IRS to answer open questions about cryptocurrency

You can see his slides here:

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Brookings has published a report by former CFTC Chairman Timothy Massad on cryptocurrency regulation.

In it, Massad calls for new regulatory authority from Congress for the SEC or CFTC to supervise cryptocurrency markets:

Congress should pass legislation providing the SEC (or alternatively the CFTC) with the authority to regulate the offering, distribution and trading of crypto-assets, including regulation of trading platforms, custodians (or wallets), brokers and advisors.

As we wrote last year, we would potentially support the creation of a new, unified federal regulator for trusted parties in the cryptocurrency ecosystem (exchanges, custodians, etc.) but it must come alongside full federal preemption of existing, vague, and innovation-chilling state money transmission licensing laws as they are applied to cryptocurrency activities. This is something the Massad report doesn’t mention, but that policymakers should consider. Trading fifty-three ill-suited and uncoordinated state regulators for a single specialist regulator is a good deal. It would encourage the growth of these technologies here in the U.S. rather than in other countries with already simpler regulatory regimes. Adding one more federal regulator on top of the existing state law soup is a recipe for pushing innovators overseas.

We also subtly disagree with Massad over which agency should be on point. The SEC should continue to police securities markets, including any issuance or trading of crypto-assets that fit the existing definition of a “security.” No new authority is needed from Congress on that subject. Decentralized cryptocurrencies, however, don’t fit the definition of a security and, owing to their public nature, they do not generate information asymmetries that a securities regulatory regime (focused on issuer disclosure) can efficiently correct. Instead, these assets are more like widely traded commodities, so it makes much more sense to have the CFTC on point, even if that means extending their supervisory authority from commodities derivative markets to commodities spot markets in the limited and special case of cryptocurrencies. Massad is right, though, only Congress through new law could create that authority, and we would support that law if it was reasonably calibrated, directed at the CFTC, and preempted state money transmission licensing.

As we wrote almost exactly a year ago,

These emergent investor protection issues are similar to those addressed by the SEC and CFTC with respect to securities exchanges and commodities futures exchanges. But, a digital currency is not a security and therefore it makes no sense to regulate digital currency exchanges as National Security Exchanges. Digital currencies are commodities, but the CFTC only regulates commodities futures markets, not commodities spot markets. All told, should investor protection issues in digital currency spot markets need to be addressed, they would be best addressed through a de novo regime crafted in legislation and seated within the CFTC. Much of that regime would be focused on investor disclosures, market transparency, and guardrails to prevent and police fraud, market manipulation, and insider trading (issues beyond the scope of this report), but the legislation should also deal with the more straightforward issue of licensing for exchanges that play a role as custodians and payment providers. The public policy goals of state money transmission regulators could thus be subsumed within a larger CFTC-administered investor protection regime. State money transmission laws would then be fully preempted for newly CFTC-regulated digital currency exchanges.

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SEC Chairman Clayton just confirmed Commission staff analysis that found Ethereum (and cryptos like it) are not securities.

We’re often asked whether that policy, articulated mid-last year by Director of the Division of Corporate Finance William Hinman, truly represents the policy of the Commission or whether it’s just the opinion of SEC staff. So, a few months ago we worked with Rep. Ted Budd to send a letter co-signed by several colleagues to Chairman Clayton asking whether he agreed with Hinman’s approach. Now the Chairman has responded:

Your letter also asks whether I agree with certain statements concerning digital tokens in Director Hinman's June 2018 speech. I agree that the analysis of whether a digital asset is offered or sold as a security is not static and does not strictly inhere to the instrument. A digital asset may be offered and sold initially as a security because it meets the definition of an investment contract, but that designation may change over time if the digital asset later is offered and sold in such a way that it will no longer meet that definition. I agree with Director Hinman's explanation of how a digital asset transaction may no longer represent an investment contract if, for example, purchasers would no longer reasonably expect a person or group to carry out the essential managerial or entrepreneurial efforts. Under those circumstances, the digital asset may not represent an investment contract under the Howey framework.

We’re gratified to see that the SEC’s thoughtful approach to applying the Howey test to cryptocurrency comes from the top.

*The headline of this post has been changed from "SEC Chairman Clayton just confirmed Commission staff analysis that Ethereum (and cryptos like it) are not securities." to "SEC Chairman Clayton just confirmed Commission staff analysis that found Ethereum (and cryptos like it) are not securities."

A direct download of this Chairman Clayton's response is available here.

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Based in Washington, D.C., Coin Center is the leading non-profit research and advocacy center focused on the public policy issues facing cryptocurrency and decentralized computing technologies like Bitcoin and Ethereum. Our mission is to build a better understanding of these technologies and to promote a regulatory climate that preserves the freedom to innovate using permissionless blockchain technologies.