Name
Global FinTech Guide
Country _ Name
United States
SectionTitle
DLT and cryptocurrencies
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FinTechs belonging to this category offer financial services using crypto currencies. This category also includes FinTechs utilising blockchain and distributed ledger technologies (DLT) upon which Bitcoin and Ethereum are based, among others. FinTechs develop and do research in this field in order to create new services – e.g. crypto currency exchange markets, wallet providers, NFTs-related services, new payment services, "smart contracts" or new clearing and settling services.

Introduction

Attitude of the country towards financial services using crypto currencies

There is an increasing acceptance of crypto currencies in the United States, with several large payment service companies such as PayPal facilitating the purchase and sale of certain crypto currencies or the use of crypto currencies as a means of payment. Many major asset managers have been exploring ways to allow their clients to access crypto currencies, including Fidelity which just announced that they will allow retirement plans to include an option to purchase Bitcoin. That said, crypto currencies are almost exclusively used as a form of investment and not as a form of payment because the use of crypto currency as a form of payment is a taxable transaction for federal income tax purposes.

The United States on both a federal and state level permits crypto currencies that it does not consider to be a security to be used in financial services. This includes Bitcoin and Ethereum. That said, the regulatory environment relating to most other crypto currencies remains unclear, as the SEC remains embroiled in litigation with Ripple (XRP) in connection with its purported securities offering in its initial coin offering (ICO).

Crypto currencies such as Bitcoin are regulated at the federal level primarily by the CFTC, which is under in the Department of Agriculture and regulates commodities and commodity interests. The CFTC is primarily concerned with and requires registration for options and futures related to commodities. The spot market for crypto currencies is not regulated by the CFTC, and those are primarily regulated as MSBs by the individual states as described above in “Payment services.” 

Although in practice in the United States crypto currency is not regularly used as a form of “money” for most transactions, most of the 50 states regulate Bitcoin and other crypto currencies as such. This means that unless a transaction is done by a bank or trust company, a money transmission licence must generally be obtained to transact with residents of that state. New York has a special type of money transmission license for crypto currency - called a BitLicense - that must be obtained from the New York Department of Financial Services (DFS). Registration is also required with FinCEN at the federal level. See “Payment services” above for a more detailed description of regulations applicable to MSBs. 

From a tax perspective the Internal Revenue Service (IRS) considers crypto currencies to be property and not a currency under IRS Notice 2014-21. This was updated by Revenue Ruling 2019-24, which mostly deals with hard forks and airdrops. In general, mining a crypto currency is taxable at the value of the currency as of the time it was mined and the cost basis in crypto currency purchased with real currency is the amount spent to acquire the currency, including fees. There are still a number of complications related to the taxation of crypto currencies, including that there is no de minimis safe harbour or exemption, and tax reporting for crypto currency transactions can be quite complicated. 

For a crypto currency that qualifies as a security rather and a currency, the primary regulator in the United States is the SEC. The SEC has indicated that it considered m
ost crypto currencies, other than Bitcoin and Ethereum, to be securities and most token sales to have taken place in violation of the securities laws. See “Asset and portfolio management” and “ICO/Token Sale” for a more in-depth discussion of SEC regulation of these types of entities.

Legal affairs

Obligations and requirements to provide financial services using crypto currencies described above

Obligations and requirements placed on digital asset service providers differ significantly depending on the nature of the digital asset and the type of services being provided. Each of the exchanges, crypto currency wallets, digital security exchanges, custodians, and swap execution facilities are treated differently as highlighted below. 

  • Crypto currency exchanges typically fall under the regulatory scope of the BSA, which means that crypto currency exchange service providers must register with FinCEN, implement an AML/KYC program, maintain appropriate records, and submit reports to the authorities. However, the SEC has indicated that it considers many crypto currencies to be securities, and at times has applied securities laws to digital wallets and exchanges. At the state level, crypto currency exchanges must also register as MSBs or be subject to a banking or trust company regime.
  • Crypto currency wallets are regulated as MSBs or banks if they are custodial wallets. Non-custodial wallets (such as hardware wallets or MetaMask) are largely unregulated.  
  • Swap execution facilities, such as facilities that permit the trading of binary options or that allow for betting on outcomes, generally are required to register with the CFTC and become subject to significant regulatory requirements.
  • Stablecoins, or crypto currencies linked to the value of another asset (usually fiat currency), occupy a regulatory vacuum where they arguably could be regulated by multiple regulators, with enforcement actions having been brought by the SEC, CFTC, OCC, FinCEN and state regulators, but with no formal regulatory scheme in place. The federal government is exploring establishing a federal regulatory scheme for stablecoins.
  • Decentralised exchanges and automated market makers also occupy a regulatory vacuum and arguably could be regulated by many but presently are closely regulated by none and are likely to become subject to significant regulatory scrutiny in the near future. 
  • Other digital assets, such as fractional tokenised assets and many “utility tokens,” are likely securities and the use or exchange of such digital assets are likely regulated by the SEC. See “Asset and portfolio management” and “ICO/Token Sale” for a more in-depth discussion of SEC regulation of these types of entities.

While traditional crypto currency exchanges are subject to the regulations noted above, they may be subject to additional regulation. For example, Gary Gensler, present Chair of the SEC, has stated that he believes all crypto currency exchanges are transacting in digital assets that are securities and thus should also be subject to securities exchange laws.

In addition to the mostly federal requirements described above, many of the 50 states that comprise the United States have issued guidance or passed legislation related to virtual currencies, with a majority of these states regulating virtual currencies as money. New York has taken a different route and many digital asset service providers are required to get a “BitLicense”, which requires approval by New York DFS and has quite burdensome requirements. 

The State of Louisiana also requires companies engaged in virtual currency business activities to obtain an additional license separate from the state’s MSB license. California has considered similar l
egislation for the past few sessions of the California Assembly but has yet to adopt specific licensing requirements. California has provided guidance on virtual currency transactions but on a case-by-case basis and has explicitly provided that these transactions are considered money transmission. 

At the other end of the spectrum, in some other states, virtual currencies are not yet regulated because they have not been determined to fit within the parameters of the state money transmitter statutes. Many states, including Illinois, Tennessee, and Texas, have issued formal guidance that virtual currency transactions which do not implicate fiat currency (e.g. an exchange) are not considered money transmission. Additionally, Wyoming does not consider crypto currencies to be currencies and Montana does not regulate money transmission.

Additional comments regarding the legal situation for financial services using crypto currencies or what FinTech’s must be aware of in this business area

In March 2022, President Biden issued an Executive Order on Ensuring Responsible Development of Digital Assets. The Executive Order provides a government-wide strategy to regulate crypto currencies and details the administration’s policy efforts and regulatory objectives. While the Executive Order references regulatory issues like anti-money laundering (AML), the administration emphasised the importance of reinforcing the United States’ influence and competitiveness in global crypto currency market through “the responsible development of payment innovations and digital assets” and the need to “promote access to safe and affordable financial services.” 

There is growing evidence that the SEC intends to further regulate crypto currency exchanges. For example, in early 2022 the SEC proposed a rule change that would expand the definition of “exchange” in a way that many believe to be an effort by the SEC to make it easier to argue that crypto currency exchange platforms, decentralised exchanges, and even developers might be required to register as securities exchanges or operate as alternative trading systems. The SEC proposed to treat any system performing the function of a marketplace as an “exchange” by including “Communication Protocol Systems” in the definition of exchange. Some developers and platforms that operate in the digital asset space, including automated market makers, could be viewed as falling within the proposed definition of “Communication Protocol Systems.” Then, in April 2022, SEC Chairman Gary Gensler announced several initiatives during a speech to expand investor protections in the crypto currency market. As part of that he stated that the SEC plans to register and regulate crypto currency exchanges and will explore separating out asset custody to minimise investor risk. 

FinCEN has outlined the extent to which its regulations have jurisdiction over persons who, among other things, create, transmit, or otherwise transact with virtual currencies. FinCEN’s guidance notes that although “virtual currency” does not have legal tender status in any jurisdiction, it does operate as a “medium of exchange” (a significant attribute of real currency) in certain specified environments. In its guidance, FinCEN limits its focus on “convertible” virtual currency, which means that the virtual currency has an equivalent value in real currency or can function as a substitute for real currency, as opposed to non-convertible or closed virtual currency, which has no currency equivalent and is not convertible into fiat currency or other virtual currencies. 

The guidance divides the participants in “generic virtual currency arrangements” into three (3) categories: “users,” &l
dquo;exchangers,” and “administrators.” A user is a person who “obtains virtual currency to purchase goods or services on the user’s behalf.” An exchanger engages in the business of exchanging virtual currency for traditional currency or other virtual currency. Finally, an administrator “is a person engaged as a business in issuing (putting into circulation) a virtual currency, and who has the authority to redeem (to withdraw from circulation) such virtual currency.” The guidance explains that “users” are not MSBs under FinCEN regulations and instead are merely transacting on their own behalf. On the other hand, an administrator or exchanger of virtual currency that “(1) accepts and transmits a convertible virtual currency or (2) buys or sells convertible virtual currency for any reason is a money transmitter under FinCEN regulations, unless a limitation to or exemption from the definition applies to the person.” 

With regard to Stablecoins, a form of crypto currency that attempts to peg their market value to some external reference—such as the U.S. dollar or gold, the federal government is considering significant additional regulation.

Economic conditions

Market size for financial services using crypto currencies and biggest companies in this business area

According to a survey, about 20% of people in the United States owned crypto at some point in the last year. Given the large and very fragmented nature of the digital assets market in the United States, we do not have data as to its total size or number of transactions. As of April 2022, the largest crypto currency exchanges in the United States market by volume are Coinbase, FTX, Kraken, Binance.US and Gemini. Major crypto currency custodians include Coinbase, Gemini, Fidelity Digital Assets, Anchorage Trust, and Prime Trust. Major crypto currency payment processors include Coinbase, BitPay, Circle and CoinGate. 

Additional comments regarding the economic situation for financial services using crypto currencies or what FinTech’s must be aware of in this business area

As a practical matter, it is currently difficult for companies with businesses in the crypto currency space to open bank accounts for fiat currency. Most major financial institutions hesitate to deal with companies in this space and there are only a handful of banks that welcome these FinTechs as clients. 

There is increased focus on KYC and AML rules in all areas of the crypto currency and digital assets market. In the immediate term, this has led to a delay in opening accounts as well as increased costs of compliance.

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