Blockchain and Digital Assets News and Trends - October 2023
This is our tenth monthly bulletin for 2023, aiming to help companies identify important and significant legal developments governing the use and acceptance of blockchain technology, smart contracts and digital assets.
While the use cases for blockchain technology are vast, this bulletin will be primarily on the use of blockchain and or smart contracts in the financial services sector. With respect to digital assets, we have organized our approach to this topic by discussing it in terms of traditional asset type or function (although the types and functions may overlap), that is, digital assets as:
- Virtual currencies
- Deposits, accounts, intangibles
- Negotiable instruments
- Electronic chattel paper
- Digitized assets
In addition to reporting on the law and regulation governing blockchain, smart contracts and digital assets, this bulletin will discuss the legal developments supporting the infrastructure and ecosystems that enable the use and acceptance of these new technologies.
Treasury proposes designating transactions with cryptocurrency mixers a “primary money laundering concern”
The US Treasury Department’s Financial Crimes Enforcement Network (FinCEN) has proposed a rule that would require US financial institutions to monitor and report transactions involving cryptocurrency mixing services.
Under this rule, issued on October 19, 2023, FinCEN would exercise its authority under the seldom-used Section 311 of the USA PATRIOT Act (Section 311) to designate transactions with cryptocurrency mixers and mixing services as a “Primary Money Laundering Concern.” This would permit FinCEN to order financial institutions regulated by the Bank Secrecy Act (BSA) to take “special measures” over and above the anti-money laundering (AML) program controls the BSA already requires. Read more.
STATUTORY AND AGENCY DEVELOPMENTS
CFTC Commissioner speaks on pilot program for digital asset markets. On September 7, Commissioner Caroline Pham spoke before the Cato Institute and proposed that the US launch “the first-ever US pilot program for digital asset markets,” in the “hope that a pilot [will] test, gather data, and develop a pragmatic approach to digital assets and tokenization [to] ensure we continue to uphold [the CFTC’s] mandate of fostering open, transparent, competitive, and financially sound markets.” Commissioner Pham proposed a “time-limited” pilot program which covers “registration and eligibility requirements, financial resources and other conditions, risk management, products and contract terms, and other requirements including disclosures and reporting.”
CFTC Commissioner addresses rug pulls and pig butchering at the Commission’s technology and fraud virtual event. On October 4, the CFTC hosted its World Investor Week program, an initiative sponsored by the International Organization of Securities Commissions (IOSCO). The program focused on common investor fraud schemes that leverage social media, such as “rug pulls, “pig butchering,” and romance schemes. In opening remarks, CFTC Commissioner Kristin Johnson emphasized that digital assets, including cryptocurrencies and NFTs, would feature prominently in the program. She pointed to COVID-19, geopolitical turmoil, and a rising interest among younger investors to explain the greater role that social media plays in modern retail investor markets. Johnson noted that the Internet and social media have enabled frictionless investing and “unprecedented returns.” While she acknowledged that “increased access and inclusion” brings many benefits, she also warned that regulators would need to adapt their role as a check against fraud. She advised, for example, using social media to distribute verified information to help investors make sound investments.
CFTC Commissioner discusses decentralized markets at the World Federation of Exchanges. On September 21, CFTC Commissioner Kristin Johnson delivered the keynote address at the World Federation of Exchanges Annual Meeting. Her speech covered a variety of topics that she broadly described as “the explosive growth of novel direct-to-consumer services,” which includes cryptocurrency and crypto-derivative markets. She cited the FTX collapse as her impetus for directing CFTC to draft rules strengthening customer protection and market integrity. While acknowledging that blockchain technology may achieve many benefits such as greater access to financial service, greater efficiencies, and “the great potential to increase regulatory transparency, enhance record-keeping and reduce concentration risk,” Commissioner Johnson also cautioned that the technology invited new and substantial risks. In closing, the Commissioner called on the CFTC to study and address gaps created by these emerging decentralized and disintermediated market structures.
CFTC Commissioner delivers keynote at energy summit at Rice University. On October 5, CFTC Commissioner Kristin Johnson delivered the keynote address at Rice University’s Baker Institute for Public Policy Annual Energy Summit. Though her remarks focused on the CFTC’s role in regulating carbon offset markets, she touched on several topics related to blockchain technology and cryptocurrency. In particular, Commissioner Johnson noted that blockchain technology offers the promise of “increased transparency” and efficiency in the market for carbon credits. At the same time, she noted concern about “taking one unregulated market – carbon offsets – and layering it on top of another unregulated market – cryptocurrency.” Additionally, Commissioner Johnson touted the CFTC’s recent enforcement action charging Opyn, Deridex and ZeroEx with registration failures. These were DeFi protocols that allowed the public to trade derivatives with digital asset underliers. She defended the CFTC’s enforcement action as “crucial for protecting customers.” (For more information on the action, see our September 2023 issue.) Finally, Commissioner Johnson touched on the environmental impact of crypto mining. Without acknowledging the wide proliferation of energy-efficient proof of stake blockchains, Commissioner Johnson reported that crypto mining consumes as much electricity as all home computer or residential lighting in the United States.
Fed issues research paper on tokenization. In September, the Board of Governors of the Federal Reserve System issued a research paper under its Finance and Economics Discussion Series entitled Tokenization: Overview and Financial Stability Implications. The paper discusses the potential benefits and financial stability implications of tokenization – defined as “the process of constructing digital representations (crypto tokens) for non-crypto assets,” and notes that tokenizations “create interconnections between the digital asset ecosystem and the traditional financial system.” The report finds that “[a]t sufficient scale, tokenized assets could transmit volatility from crypto asset markets to the markets for the crypto token’s reference assets.
FinCEN publishes alert on “pig butchering” scams. The US Financial Crimes Enforcement Network (FinCEN) announced on September 8 publication of an Alert titled Prevalent Virtual Currency Investment Scam Commonly Known as “Pig Butchering” (FIN-2023-Alert0005). The Alert notes that the scammers establish relationships with the victims and convince the victims to invest in virtual currency with the intent of defrauding them of their investment. The Alert describes red flag indicators to assist financial institutions with identifying and reporting related suspicious activity.
DOT conduct meeting of US-UK Financial Regulatory Working Group. On September 6, the eighth official meeting of the US-UK Financial Regulatory Working Group took place in Washington DC. The Working Group meeting focused on several key themes including digital assets, and maintained the importance of comprehensive regulation in the area of digital finance, as well as its commitment to fostering responsible digital financial innovation, including through the parallel bilateral Financial Innovation Partnership. Participants agreed on the importance of effective regulation and oversight of crypto assets and markets and reiterated their support for the international work on crypto assets and stablecoins through the FSB and international standard setting bodies.
DOJ calls for corporate compliance programs to evolve to meet the threat of “cryptocrime.” In remarks delivered to the Global Investigations Review Annual Meeting, Principal Associate Deputy Attorney General Marshall Miller briefly addressed the evolving “crypto-enabled crime front,” citing recent examples of nation-states and criminal actors engaging in “increasingly sophisticated money laundering, cryptocrime, technology theft, and sanctions and export control evasion.” Miller described increased efforts by DOJ and partner agencies to expand their enforcement efforts, but also called upon companies to update their compliance programs and invest in measures to avoid sanctions violations and money laundering activity. In general, the remarks indicated DOJ’s renewed interest in working with industry to address the growing threats enabled by disruptive technologies such as blockchain.
California enacts digital asset business licensing scheme. On October 13, California enacted AB39, the Digital Financial Assets Law, which becomes effective July 1, 2025. The new law requires licensing by the California Department of Financial Protection and Innovation (DPFI) of persons and firms providing, or holding itself as providing, digital financial asset business activities for or on behalf of any California resident. The law defines a “digital financial asset” as “a digital representation of value that is used as a medium of exchange, unit of account, or store of value, and that is not legal tender, whether or not denominated in legal tender.” Additionally, “digital financial asset business activity” means any of the following:
- Exchanging, transferring, or storing a digital financial asset or engaging in digital financial asset administration, whether directly or through an agreement with a digital financial asset control services vendor
- Holding electronic precious metals or electronic certificates representing interests in precious metals on behalf of another person or issuing shares or electronic certificates representing interests in precious metals or
- Exchanging one or more digital representations of value used within one or more online games, game platforms, or family of games for either of the following:
- A digital financial asset offered by or on behalf of the same publisher from which the original digital representation of value was received
- Legal tender or bank or credit union credit outside the online game, game platform, or family of games offered by or on behalf of the same publisher from which the original digital representation of value was received.
NYDFS proposes updated guidance on delisting cryptocurrencies. On September 18, the New York Department of Financial Services issued a letter to industry outlining proposed updates to its guidance to virtual currency exchanges. The new guidance requires licensed Virtual Currency Entities in New York to develop a policy for delisting virtual currencies when, for example, new risks emerge for the token. According to the letter, NYDFS is concerned with protecting consumers who are harmed when they invest in virtual currencies that are then delisted on public exchanges for seemingly arbitrary reason. Additionally, the proposed guidance would update the framework for designating coins or tokens to be added to the NYDFS Greenlist and requires stricter standards for retail and consumer products.
California DPFI issues consumer alert on crypto scam. On September 21, the California Department of Financial Protection and Innovation issued a Consumer Alert warning about the crypto scam entity “Bitscyber” which impersonates the DFPI and uses a fraudulent “Ownership Certificate Of Funds” document to steal money. Bitscyber purportedly offers to retrieve lost cryptocurrency funds, claiming that it is the DFPI.
ENFORCEMENT ACTIONS AND LITIGATION
SEC charges lawyer involved with unregistered security offering. On September 20, the SEC announced it had brought and settled charges against the lawyer who drafted, reviewed, and approved a single press release that allegedly promoted a crypto asset that raised more than $1.5 million from 30 investors in May 2021. According to the SEC order, the lawyer worked for a company called Gebo Group LLC which developed a token it offered through purchase agreements called Agreements for Participation in Event or “APEs.” (“Ape” is a common cryptocurrency colloquialism that means, roughly, to buy recklessly and in large quantities). Among other alleged misrepresentations, the lawyer allegedly wrote in the press release that Gebo Group had secured commitments from investors for $50 million. The SEC charged the lawyer with violations of Sections 17(a)(2) and (3) of the Securities Act of 1933. Though he had already returned the investors’ funds, the lawyer also consented to additional proceedings to determine if any further disgorgement, interest, or civil penalties would be appropriate.
SEC brings administrative action against Chicago Crypto Capital executives. On September 26, the SEC announced administrative proceedings against Brian Amoah, the owner of Chicago Crypto Capital LLC, and a salesman, Elbert Elliott, for defrauding buyers of BXY token. The SEC alleges that Amoah and Elliott acted as brokers even though they were not registered as such. The order further alleges that Amoah and Elliott misrepresented the markups they charged for the sales and the value of their own investments, while concealing financial and management problems at BXY’s issuer. Amoah and Elliott allegedly raise $1.5 million from 100 individuals. They are charged with violations of Section 5 of the Securities Act of 1933, Section 15(a) of the Securities Exchange Act of 1934, the antifraud provisions of Section 17(a) of the Securities Act, and Section 10(b) of the Exchange Act, and Rule 10b-5. The outcome of the charges will be decided in a public hearing before the SEC.
SEC files lawsuit against Empirex Capital. On September 21, the SEC announced it had filed civil charges in the US District Court for the Southern District of Florida against Empirex Capital LLC and its owner and manager Rafael Vargas. According to the complaint, Vargas and Empirex raised $6.6 million from investors in the US and abroad for purported investments in cryptocurrency, stock, and bonds. The defendants allegedly never invested in stock and bonds and only started investing in cryptocurrency in February 2021. They allegedly used the rest of the money for personal expenses like jewelry, housing, and car payments and for paying off earlier investors in an alleged Ponzi scheme. The defendants are charged with violating Sections 5(a), 5(c), and 17(a) of the Securities Act of 1933 and Sections 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder, and Sections 206(1) and 206(2) of the Investment Advisers Act of 1940. SEC seeks permanent injunctions, disgorgement, and civil penalties.
SEC settles with bitcoin fraudster. On September 8, the SEC issued a cease-and-desist order settling charges against Jacob R. Orvidas, who allegedly raised more than $2 million in bitcoin from four investors, “claiming that he managed a successful private fund trading solely in bitcoin,” and who misrepresented that the fund was “registered with the Commission.” The CFTC also settled a parallel enforcement action against Orvidas with respect to Orvidas having allegedly “fraudulently solicited at least four pool participants to trade leveraged bitcoin in a commodity pool.”
CFTC charges foreign nationals with operating fraudulent digital asset trading scheme Cryptobravos. On September 29, the CFTC announced it had filed a civil enforcement action in the US District Court for the District of New Jersey against individuals from Israel, Italy, Germany, and Ukraine, and a Seychelles company doing business as Cryptobravos. The defendants allegedly solicited and misappropriated tens of millions of dollars from victims around the world and the US. In what has become an exceedingly familiar pattern, the defendants allegedly made false and misleading promises to invest their victim’s funds in cryptocurrency and promised high returns. In reality, the defendants used the money for their own personal expenses and to repay earlier investors in a Ponzi-like scheme. Most customers never saw any of their money returned. CFTC seeks restitution, disgorgement, civil monetary penalties, and permanent injunctions against the four individuals and their company.
CFTC charges CEO of Voyager with fraud and registration failures. On October 12, the CFTC announced it had sued Tennessee resident Stephen Ehrlich who is the former CEO of the now bankrupt Voyager entities. CFTC accuses Ehrlich of fraud and registration failures stemming from Voyager’s operation of a digital asset platform that the CFTC alleges was an unregistered commodity pool. According to the complaint, Ehrlich falsely promoted his platform as a “safe haven” to store digital assets and earn returns as high as 12 percent. In a statement, CFTC Director of Enforcement Ian McGinley said Ehrlich and Voyager lied to customers about the safety of their digital assets while taking “shockingly reckless risks” that eventually led to Voyager’s bankruptcy.
Voyager’s business model was to pool customer assets to issue loans to third parties on which Voyager would charge interest that it shared with its customers. In one transaction, Voyager allegedly lent $650 million in digital assets to another firm called Gemini that intended to generate returns by trading commodity interests. The CFTC alleges this action made Voyager an unregistered commodity pool operator. When Gemini defaulted, Voyager customers were unable to withdraw their assets; soon after, Voyager filed for bankruptcy. Notably, Voyager customers were eventually able to withdraw their funds directly from Gemini in June 2023.
In a dissent, Commissioner Caroline Pham cautioned that the CFTC’s classification of Voyager as a commodities pool operator “would seem to include commonplace lending activity” which she deemed “an overreach” beyond CFTC’s authority. The CFTC filed its action in parallel with an FTC action alleging violations of the FTC and Gramm-Leach-Bliley Acts regarding false claims that consumers’ deposits were insured by the FDIC. For more information on Voyager, see our October 2022, August 2022 and July 2022 issues.
CFTC files complaints against eight companies falsely claiming to have registered with CFTC. On September 29, the CFTC announced it filed administrative proceedings against eight separate entities which all falsely claimed to have registered with the CFTC as futures commission merchants (FCMs) and retail foreign exchange dealers (RFEDs). According to the complaints, the entities all offered customers a platform for trading futures, options, forex, and digital assets (that the CFTC asserts were commodities). All eight entities claimed to have an identical identification number with the National Futures Association. In a dissent, Commissioner Caroline Pham, objected to the Commission’s decision to use administrative proceedings before an Administrative Law Judge rather that filing in federal court. She called the proceedings a “shotgun approach” that is a “misuse” of the CFTC’s adjudicative authority.
R3 Crypto Fund manager pleads guilty to fraud scheme. On September 19, the US Attorney’s Office for the Eastern District of New York announced that Rashawn Russell, former manager of the R3 Crypto Fund, had pleaded guilty for his role in a scheme to defraud the fund’s clients by falsely promising huge return on their investments in cryptocurrency. The USAO alleges that, in reality, Russell was using the funds for his personal expenses, for gambling, and to pay off earlier investors. In total, 29 investors lost $1.5 million which Russell will be required to pay back in restitution. He also faces up to 30 years in prison.
Crypto Ponzi scheme CEO pleads guilty. On September 27, the US Attorney’s Office for the Southern District of New York announced an indictment of and plea agreement with Marco Ruiz Ochoa, who had promoted IcomTech, a large-scale cryptocurrency Ponzi scheme. According to the indictment, Ochoa claimed to be the CEO of IcomTech in 2018 and 2019. The company claimed it was a crypto mining and trading operation and promised investors daily guaranteed profits. In reality, IcomTech was merely paying off earlier investors with the funds from new ones. To induce investors, IcomTech allegedly threw lavish events throughout the US and internationally. Promoters such as Ochoa also spent investors’ funds on personal extravagances, such as real estate. Before the Ponzi scheme collapsed, Icom started issuing its own token, “Icoms,” in an attempt to extract more liquidity, but the tokens quickly became worthless. Ochoa faces up to 20 years in prison for conspiracy to commit wire fraud. Several other co-conspirators are expected to plead guilty in the case USAO also announced charges against five others, with trial set for February 2024. For more information on the indictments, see our December 2022 issue.
Co-founder and operators of AirBit Club sentenced. On September 26, the US Attorney’s Office for the Southern District of New York announced that Ablo Renato Rodriguez, the co-founder of AirBit Club with Gutemberg Dos Santos, was sentenced to 12 years in prison for orchestrating the massive global AirBit Club pyramid scheme. Additionally, on October 3, the USAO announced that other Rodriguez co-defendants, Scott Hughes, Cecilia Millan, and Karina Charez, were also sentenced to 18 months, 5 years and 1 year, respectively. Rodriguez and his co-conspirators deceived individuals into investing in AirBit Club, a purported cryptocurrency mining and trading company, and executed a sophisticated money laundering operation to hide their illegal profits pilfered from AirBit Club. Dos Santos, the last remaining co-defendant, has pled guilty and is awaiting sentencing. Rodriguez and his co-defendants collectively have been ordered to forfeit their fraudulent proceeds from AirBit Club, which include seized or restrained assets consisting of US currency, bitcoin, and real estate currently valued at $100 million. For more information on AirBit Club, see our March 2023 issue.
New Hampshire man sentenced to eight years in bitcoin laundering scheme. On October 2, the US Attorney’s Office for the District of New Hampshire announced that Ian Freeman, a New Hampshire resident, had been sentenced to eight years in prison for operating a bitcoin money laundering scheme. Freeman was convicted of conspiracy to commit money laundering, operating an unlicensed money transmitting business, and other felonies. In the scheme, Freeman helped Internet romance scammers launder their proceeds. He exchanged the proceeds from the scams for bitcoin, making it difficult for law enforcement to track. He also helped the scammers evade taxes. Freeman’s scheme facilitated millions of dollars in losses to victims. In one case, a victim lost $1 million to a romance scammer whom Freeman had helped. Freeman charged high fees for his services and himself made more than $1 million in the scheme. In addition to his prison sentence, Freeman was also ordered to pay restitution to the victims of his scheme and $40,000 in fines.
Wisconsin DFI issues order against digital asset trading platform. On October 5, the Wisconsin Department of Financial Institutions issued a Summary Order to Cease and Desist against SpreadExFx.com, and SpreadEx Exchange, Inc., a digital asset trading platform and its operations website provider. Although neither entity was registered with the DFI, the SEC, the NFA, or the FINRA, the companies provided trading for commodities, forex, cryptocurrency trading pairs, and DEFI pools. According to the order, the entities also enabled a romance scheme with investors to encourage additional investment.
Texas stops crypto fraud purportedly linked to Russian government assets. On October 5, the Texas State Securities Board announced an Emergency Cease and Desist Order to stop sales of securities issued by BigWhale.io. BigWhale.io allegedly claimed to have raised $6 million from more than 2,000 investors before a hacker stole the funds. According to the press release, BigWhale.io allegedly promised to use its decentralized application to lend investors’ assets to “vetted borrowers” paying interest to BigWhale.io, which purportedly used this revenue to pay “lucrative interest to its investors – as high as 2% per day with the option to compound yield and earn a return of nearly 500% after a term of 90 days.” The order found that BigWhale.io used a multilevel marketing scheme that relied on numerous online influencers to promote its decentralized application.
SPOTLIGHT ON INTERNATIONAL DEVELOPMENTS
Canada: Canadian Securities Administrators (CSA) announced on October 5, the publication of an “interim approach” for crypto asset trading platforms regarding the trading of stablecoins or “fiat-backed crypto assets.” The approach is set forth in CSA Staff Notice 21-333 Crypto Asset Trading Platforms: Terms and Conditions for Trading Value-Referenced Crypto Assets with Clients which notice is intended to address investor protection concerns presented by stablecoins and include, among other things, the following provisions:
- The issuer of the stablecoin must maintain an appropriate reserve of assets with a qualified custodian, held for the benefit of the stablecoin holder.
- The issuer of the stablecoin and stablecoin trading platforms that offer them must make certain information related to governance, operations and reserve of assets publicly available.
European Union: On October 11, the European Securities and Markets Authority (ESMA) published Decentralised Finance in the EU: Developments and risks, a report that “assesses the development of DeFi, its distinctive features, and the risks it raises to ESMA’s objectives, with a view to informing the future review of the markets in crypto-assets regulation (MiCA).” Findings from the report include: (1) DeFi creates important risks to investor protection and has the potential to create negative externalities on the traditional financial system, although current overall exposures remain small; (2) New forms of market abuse are facilitated by DeFi innovative features; (3) Effectively regulating and supervising DeFi is not easy, because of the need to determine how the current rules may apply to a system that purports to eliminate those entities to which existing rules precisely apply; (4) The ability of regulators (and investors) to understand DeFi and the risks involved is hampered by important data gaps; and (5) MiCA does not directly address DeFi.
United Kingdom: The UK Financial Conduct Authority (FCA) issued a press release on September 10 noting that, on the first day of the FCA’s new “crypto marketing regime” (which brings crypto asset promotions under FCA authority), the FCA issued 146 alerts about crypto asset promotions. The alerts identify firms that may be providing or promoting crypto asset offerings without FCA permission.
UPCOMING AND RECENT EVENTS
Margo Tank named among Top 10 Influential USA Lawyers Impacting Fintech: Blockchain and Cryptocurrencies for 2023 in Business Today.
Facilitating business and mitigating CFTC and SEC risk: A CLE event to be held on October 23 from 12 pm - 1 pm Eastern time, with the following speakers: Robert Schwartz, General Counsel for the CFTC, and DLA attorneys Deanna Reitman, Eric Forni, and Era Anagnosti.
DLA Piper’s Commodities, Digital Assets, and Carbon Compliance and Enforcement team draws on decades of collective experience in the commodities and securities industry to help companies navigate new and complex commodities enforcement matters, including those related to agriculture, metals, energy, digital assets, and carbon/sustainable commodities, among others.
DLA Piper attorneys presented at the following:
- Global Digital Forum – Adapting to a digital future for real world assets and content, September 28, 2023, with Margo Tank, panelist on The regulatory outlook for real world assets, and James Williams, panelist on The opportunities and challenges created by a new US framework.
- Creating and monetizing carbon assets for financing, trading, and retirement, July 26, 2023, with Drew Young and Deanna Reitman.
- Cryptoassets: Emerging legal trends in common law and civil law jurisdictions. How international courts are dealing with cryptoasset disputes, June 20, 2023, panel chaired by Christina Sharma and Michael Fluhr, with speaker Ewald Netten, Dan Jewell, Andrea Pantaleo, Matthew Miller and Deborah Meshulam. Key takeaways from the webinar may be found here.
- NFT Legal Overview: Copyright, trademark, and Uniform Commercial Code (Articles 2 & 12) [Part I], available on demand, with Tom K. Ara.
- NFT Legal Deep Dive: Copyright, trademark, and Uniform Commercial Code (Articles 2 & 12) [Part II], available on demand, with Margo Tank and Gina Durham.
- NFT Legal Deep Dive: Securities law, entertainment unions, and licensing [Part III], available on demand, with Katherine Imp and Michael Fluhr
Terms of Service Are Instrumental in Determining Rights to Digital Assets – The Holding in Celsius Network LLC, published in The Computer & Internet Lawyer, May 2023, by Margo Tank, David Whitaker, Liz Caires and Emily Honsa Hicks
Digital Digest, the inaugural edition of our bi-monthly newsletter from Dan Jewell, Sam Gokarn-Millington, and Marina Troullinou of the UK DLA Piper Finance and Litigation teams. Digital Digest provides updates on key issues to be considered when doing business in the digital and crypto space in or from the UK.
Learn more about our Blockchain and Digital Assets practice by contacting any of our editors:
Contributors to this issue