May Updates On Crypto Enforcement And Regulatory Guidance

May saw a slower month for crypto enforcement actions by state and federal regulators. Check out our March 2022 blog on crypto enforcement actions here where we discuss regulatory guidelines and the jurisdiction of federal and state agencies to enforce these issues.

Federal and State Updates

Securities and Enforcement Commission (SEC)

On May 3, the SEC announced “the assignment of 20 additional positions to the unit responsible for protecting investors in the crypto markets and against cyber threats”. As a result, the Division of Enforcement’s Crypto Assets and Cyber ​​Unit will be expanded to “50 dedicated positions”. cybersecurity risk and incident disclosure practices. The expansion demonstrates the SEC’s intention to step up enforcement efforts, which we are watching closely.

Treasury Department

On May 10, Treasury Secretary Janet Yellen presented the annual report of the Financial Stability Oversight Council (FSOC) to the Senate Banking Committee on the need for sensitive stablecoin legislation (we have already discussed from the President’s Working Group (PWG) report on stablecoins here and here). Secretary Yellen cites the findings of the PWG report as reason for concluding that “current legislative and regulatory frameworks do not provide consistent and comprehensive standards for the risks of stablecoins as a new type of payment product and urges Congress to enact legislation to ensure that stablecoins and these arrangements have a federal prudential framework.

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Commodity Futures Trading Commission (CFTC)

On May 19, the CFTC indicted several people for fraudulently soliciting at least $44 million for stakes in a so-called “income fund” investing in digital assets and other instruments. The enforcement action also accuses the defendants of operating an illegal commodity pool and failing to register as a commodity pool operator. The Complaint alleges that since at least January 2021, the Defendants have solicited more than $44 million from at least 170 participants to buy, hold and trade digital assets, commodities, derivatives, swaps and forward contracts. terms on raw materials. The Complaint also alleges that instead of investing the Participants’ Pooled Funds as advertised, the Defendants misappropriated the Participants’ Funds by distributing them to other Participants, transferring certain Participants’ Funds to other accounts under their control. and for their benefit, and transferring funds to a foreign cryptocurrency exchange. . None of these funds were returned to the pool.

On May 19, Rostin Behnam, Chairman of the CFTC, publicly noted that the CFTC would add resources and step up its efforts to combat cases of fraud and manipulation related to cryptocurrency. He stated, “[h]eadlines about the loss of tens of millions of dollars in digital assets due to protocol exploits, phishing attacks, attacks on vulnerable people, and other fraudulent and manipulative schemes have become all too common. This statement is a clear signal of actions the CFTC will likely pursue.

Financial Crime Enforcement Network (FinCEN)

On May 19, Alessio Evangelista, Associate Director of FinCEN’s Enforcement and Compliance Division, gave a presentation at the Chainalaysis Links conference on the topic “Intersection of Cryptocurrencies and National Security.” Evangelista said crypto firms “have the same obligations as all other financial institutions to ensure their new offerings can take advantage of innovations while protecting consumers, advocating against cybercrime, combatting illicit financial activity and ensuring that their platforms are not used to harm our national security. “He also pointed out that the agency believes that innovation goes hand in hand with regulation, rather than being at odds with each other.

Evangelista also said Virtual Asset Service Providers (VASPs) ignore red flags and too often persist in doing business with problematic companies. He called on these VASPs to be proactive about regulatory compliance and avoid having “paper programs” or compliance regimes that exist on paper but are not implemented, either by mistake or on purpose. Here, FinCEN allows prioritization of cases where it identifies “significant non-compliance and threats” to the financial system and where it finds “a willful disregard of regulatory requirements.”

Office of the Comptroller of the Currency

On May 24, Acting Comptroller of Currency Michael Hsu remarked at the DC Blockchain Summit 2022 on the “deep” vulnerabilities in the cryptocurrency in light of the recent market refresh and other market events. crypto-economy. Hsu accentuated vulnerabilities resulting from new blockchains that speed up operations. In particular, the crypto ecosystem has become increasingly fragmented, which presents interoperability issues. Cross-chain bridges, although they provide a solution to these problems, are very susceptible to hacking.

Hsu also pointed out that the interdependence of the crypto ecosystem presents real risks of contagion, as evidenced by the recent collapse of a popular algorithmic stablecoin, which caused the value of other stablecoins to plummet. Additionally, Hsu cited the lack of clear standards for ownership and custody of digital assets as putting consumers at risk. Hsu believes these standards are underdeveloped given the size, scope and ambitions of the industry. For example, America’s largest centralized exchange recently revealed that its users risk becoming unsecured creditors if the exchange were to file for bankruptcy.

Hsu also observed that despite the need and loss of market capitalization after the recent stablecoin crash, there has been no strain on traditional banking and finance due to exposure to crypto, a result he he attributes, at least in part, to federal and intentional bank compliance. emphasis on safety, strength and consumer protection. Hsu found this to be the result of the OCC’s “cautious and cautious” approach to banks seeking to join the crypto economy, referenced in interpretative letter 1179 released last year (we’ve already discussed this). letter in a blog post here).

state of california

Under a recent executive order signed by Governor Gavin Newsom on May 4, California is urging all state agencies to work with the federal government to create regulations for digital assets. The executive order explains the importance of this action in recognition that “California is the global center of innovation for emerging technologies due to the state’s unprecedented focus on research and development, human capital and venture capital, creativity and entrepreneurship”.

Under the executive order, the state has seven priorities: (1) creating a transparent and consistent business environment for businesses operating on blockchain; (2) work in parallel and in cooperation with President Biden’s strategy and efforts to identify responsible regulation; (3) disseminate feedback from a wide range of stakeholders for potential blockchain applications and businesses; (4) engage in public process and exercise legal authority to develop a comprehensive regulatory approach to crypto; (5) engage in and encourage executive clarity of regulation by advancing the processes outlined in the federal executive order; (6) explore opportunities for deploying blockchain technologies to meet the needs of public and emerging services; and (7), identifying opportunities to create a research and workforce environment to fuel innovation in blockchain technology.

Enforcement measures

The Ministry of Justice

On May 13, the Department of Justice launched its first criminal prosecution involving the alleged use of cryptocurrency to evade economic sanctions. Magistrate Judge Zia M. Faruqui explained in a 9-page ruling that cryptocurrency’s “reputation for providing anonymity to users” is a “myth,” saying virtual currencies such as bitcoin, Ethereum or Tether are subject to US sanctions laws even if they are outside the traditional financial system. Justice Faruqui explained that “recent OFAC guidance has confirmed that “sanctions compliance obligations apply equally to transactions involving virtual currencies and those involving traditional fiat currencies.” The complaint continued: “The Department of Justice can and will criminally prosecute individuals and entities for failure to comply with OFAC regulations, including with respect to virtual currency.”

Conclusion

The landscape of crypto-regulation and enforcement remains a convoluted patchwork. There are many legal considerations regarding NFTs, cryptography, and other Web3 technologies. What isn’t murky, however, is the clear position of U.S. regulators that despite the newness of the technology and the asset class, the basics still apply: registered or not, developers, protocols, projects and platforms cannot defraud retail investors; they cannot aid and abet money laundering; and they cannot violate the sanctions.

Copyright © 2022, Sheppard Mullin Richter & Hampton LLP.National Law Review, Volume XII, Number 158

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May Updates On Crypto Enforcement And Regulatory Guidance


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