This is the ninth post in this year’s series examining important trends in white collar law and investigations. Our previous post discussed trends in SEC enforcement of ESG priorities. Up next: Looking at the Landscape of Congressional Investigations in 2022.
In 2021, various federal entities took steps toward establishing and exerting their enforcement authority against businesses and individuals transacting in cryptocurrency (or “crypto”), a digital asset that allows for decentralized transactions (i.e., no bank). As market participation continues to surge in this new asset class, big questions remain: What are the rules? Who is enforcing them? The combination of regulatory ambiguity, increased governmental scrutiny, and the multitude of different government actors that have staked out territory in crypto regulation is likely to yield a high level of cryptocurrency enforcement in 2022.
- There will likely be increased enforcement in 2022 against businesses and individuals involved in cryptocurrency.
- Cryptocurrency will remain a priority of the SEC, which continues to view this growing asset class with a high level of suspicion.
- The DOJ, now with a specialized cryptocurrency enforcement team, is expected to ramp up prosecution of crypto-related offenses with the support of the FBI’s new cryptocurrency unit.
- President Biden’s executive order on digital assets is a historic step by the federal government to take a unified approach toward cryptocurrencies, though the order calls for careful study before any regulatory action will be taken.
- Despite the increased focus on cryptocurrency by the federal government, its status—as a security, a commodity, a currency, or something else—remains unclear, as does the applicable regulatory framework.
SEC and CFTC: the Lead Crypto Regulators
The key question in crypto enforcements is whether a cryptocurrency product or technology is a security (regulated by the SEC), a commodity (regulated by the CFTC), a currency (regulated by the Treasury Department), or something else.
Independent federal agencies have played the most active role in crypto enforcement. The U.S. Securities and Exchange Commission (SEC) has for years brought enforcement actions against entities making initial coin offerings or engaging in other cryptocurrency transactions based on theories of fraud or failure to register with the SEC. SEC Chair Gary Gensler, as we recently noted, has repeatedly highlighted cryptocurrency as an enforcement priority based on his views that the crypto market is rife with fraud and lacking in investor protection.
In 2022, the SEC will continue to crack down on crypto entities that it considers to be dealing in securities, rather than using crypto technology for some other purpose, such as a medium of exchange. Chair Gensler has insisted that “each token’s legal status depends on its own facts and circumstances” based on a test devised by the U.S. Supreme Court for determining what counts as an “investment contract.” See SEC v. Howey Co., 328 U.S. 293 (1946). The SEC’s application of this 76-year-old test risks unpredictability and poses other challenges to cryptocurrency businesses looking for concrete guidance on how to achieve regulatory compliance.
Consider Coinbase, the cryptocurrency exchange that cancelled the launch of a crypto lending product in September after the SEC threatened the company with litigation. Or Ripple Labs, the payment technology company that the SEC sued in 2020 for selling cryptocurrency in what allegedly constituted an unregistered securities offering. This lawsuit, considered a test case for the SEC’s expansive classification of cryptocurrencies as securities, is expected to conclude in 2022.
The Commodity Futures Trading Commission (CFTC) has also been targeting cryptocurrency businesses since deciding in 2015 (here and here) that virtual currencies are commodities and therefore subject to CFTC jurisdiction.
The CFTC will continue targeting platforms offering cryptocurrency derivatives based on theories that those companies have engaged in unlawful commodity transactions or failed to register with the CFTC. In September, the CFTC announced a settlement order with Kraken, one of the largest cryptocurrency exchanges in the United States, for offering retail commodity transactions in Bitcoin and other cryptocurrencies, and for its failure to register as a futures commission merchant (a broker, essentially). The following day, the CFTC announced that it had initiated administrative proceedings against an additional 14 entities, most of which it claimed did not register as futures commission merchants. More settlement orders followed in October, as the CFTC collected over $42 million from Tether, which offers a cryptocurrency backed by the U.S. dollar (a “stablecoin”) and Bitfinex, a cryptocurrency trading platform.
The CFTC wants more. Last month, CFTC Chairman Rostin Behnam, in testimony before the Senate Agriculture Committee, suggested that Congress should expand the agency’s jurisdiction and increase its budget by $100 million to allow it to play a more key role in crypto enforcement.
Law Enforcement by Executive Departments
Regardless of whether a crypto product is treated as a security or a commodity, it may be subject to enforcement by various executive agencies, in particular, the U.S. Department of Justice (DOJ). In October of 2021, the DOJ announced the creation of the National Cryptocurrency Enforcement Team (NCET), a group including cybersecurity and money laundering prosecutors tasked with targeting “criminal misuses of cryptocurrency, particularly crimes committed by virtual currency exchanges, mixing and tumbling services, and money laundering infrastructure actors.” The NCET’s first Director, Eun Young Choi, has experience with cyber, fraud, and money laundering crimes, including those involving cryptocurrency.
Crypto-related enforcement is not new territory for the DOJ, which (as we recently noted in our tax post) last month announced a record-breaking seizure of over $3.6 billion of Bitcoin and the indictment of a married couple for their alleged role in laundering cryptocurrency stolen during the 2016 hack of the cryptocurrency exchange Bitfinex. The NCET, however, consolidates and organizes the DOJ’s crypto expertise into one unit that will pursue its own cases while supporting cryptocurrency investigations and prosecutions across the entire Criminal Division, and at the state and local levels. We expect that in 2022 (and beyond) the DOJ will flex this new enforcement group, leading to an increase in investigative activity against potential targets and witnesses in alleged crimes involving cryptocurrency. And with the DOJ’s recent announcement that the Federal Bureau of Investigations is also creating a specialized crypto team (the Virtual Asset Exploitation Unit), the DOJ will be even more equipped to step up its crypto prosecutions.
The U.S. Department of the Treasury, though historically not very involved in cryptocurrency regulation, is now attempting to bring some order to the growing use of this digital asset in foreign and international transactions. Its Office of Foreign Asset Controls (OFAC) has been primarily concerned by the prospect of entities or individuals using cryptocurrency to circumvent sanctions. As we explained in November, OFAC published guidance to assist the cryptocurrency community with OFAC compliance in the wake of cryptocurrency-related enforcement actions by the agency, which included adding a cryptocurrency exchange to its list of Specially Designated Nationals and Blocked Persons. On March 1, 2022, the Treasury Department issued a report in which it notes that cryptocurrency exchanges must follow the same Bank Secrecy Act rules as banks, which include registering with the Financial Crimes Enforcement Network (FinCEN) and having a chief compliance officer.
There is pressure on the Treasury Department to step up its enforcement. On March 2, 2022, several U.S. Senators sent a letter to the Treasury Department expressing concern that OFAC’s current crypto enforcement procedures do not adequately prevent bad actors from using cryptocurrency-tools to evade sanctions. The Senators emphasized the urgency of this issue, citing reports of Russia’s plans to soften the blow of U.S. sanctions by resorting to cryptocurrency transactions, which do not run through banks. The Senators concluded the letter by posing various questions to the Treasury Department to be answered no later than March 23.
Also within the Treasury Department, the Office of the Comptroller of the Currency (OCC) has recently focused on the increasingly popular stablecoins, the value of which is pegged to a national currency or a particular commodity, like gold. The Treasury Department seems to view this less volatile form of cryptocurrency with cautious optimism. As noted in a November report from the President’s Working Group on Financial Markets, “[i]f well-designed and appropriately regulated, stablecoins could support faster, more efficient, and more inclusive payments options.” Finally, last year FinCEN announced the addition of its first Chief Digital Currency Advisor, as this bureau of the Treasury Department continues to focus on the prevention and detection of illicit financial transactions.
Some Lawmaking by Congress
In addition to this frenzy of crypto activity from the Executive Branch, Congress recently enacted legislation that will apply reporting requirements to certain cryptocurrency transactions. Contained in the 1,039-page Infrastructure Investment and Jobs Act, signed into law by President Biden on November 15, 2021, are three pages of law that extend to digital asset transactions the existing reporting requirements (and tax collections) that apply to cash transactions over $10,000 and transactions involving a broker. These new reporting requirements, which will not take effect until 2024, may have the unintended consequence of deterring certain consumers and businesses from transacting in cryptocurrency. In the meantime, the U.S. Secretary of Treasury and the Internal Revenue Service have an opportunity to issue regulations to clarify the scope of these requirements.
Despite these developments, Congress and regulators continue to draw criticism from the industry and government officials for failing to provide clear guidance to those wishing to engage in lawful cryptocurrency transactions. Some say the current regime looks more like regulation by enforcement. One outspoken critic of cryptocurrency’s regulatory ambiguity is Dawn Stump, a CFTC Commissioner who, through concurring statements (like this one, this one, and this one) and interviews, has discouraged the CFTC and the SEC from bringing enforcement actions against cryptocurrency businesses without first providing them with a clear regulatory framework.
Even members of Congress have criticized the regulatory void in which agencies are bringing enforcement actions. In a hearing before the Senate Banking Committee in September, Senator Pat Toomey (R-PA) expressed frustration to Chair Gensler regarding “the lack of helpful SEC public guidance” to determine which cryptocurrencies are securities and thus subject to the SEC’s jurisdiction.
President Biden’s Executive Order Seeks Federal Alignment
On March 9, 2022, President Biden issued his highly anticipated Executive Order on Ensuring Responsible Development of Digital Assets. The executive order recognizes the tremendous growth of cryptocurrencies and the various opportunities that they present, while acknowledging that the federal government needs to align its approach to maximize the potential benefits, and reduce the risks, of cryptocurrencies.
The policy objectives in the executive order are vast, extending from consumer and investor protection, to financial stability and global leadership, and even to human rights and climate change. While the order does not implement any immediate changes to cryptocurrency regulation, it calls for an in-depth review of the problems and promises of cryptocurrency by a laundry list of federal agencies with the goal of synchronizing and advancing the federal government’s oversight. The executive order, which was generally well-received by the crypto industry, marks the very beginning of the federal government’s first attempt to take a unified approach toward cryptocurrency.
So many signs point to an increase in crypto enforcement in 2022 as various government actors, with their respective remits and tools, pursue perceived misconduct involving this new asset class. President Biden’s executive order is a major step toward the adoption of a clear and comprehensive regulatory framework that seems likely to clear away some of the legal uncertainty that has surrounded cryptocurrency in the United States. In the meantime, cryptocurrency issuers, platforms, and funds will continue to face difficult decisions as they try to remain competitive in this growing industry while steering clear of government enforcement.