To remain competitive, companies find themselves increasing their efforts to digitally transform their businesses by developing new offerings based on emerging technologies and integrating these technologies into existing product and service offerings.
This is our fifth monthly bulletin, 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, from copyright protection to voting, most of the current adoption is in the financial services section and the focus of this bulletin will be primarily on the use of blockchain and or smart contracts in that 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
Digital assets can themselves be assets or instead can reflect the ownership of an underlying asset. For example, electronic records that are the equivalents of negotiable instruments and electronic chattel paper would be digital assets, as would an electronic recording of a security interest in the underlying asset, such as recording title to real or personal property and the use of tokens to represent revenue streams from otherwise illiquid assets such as patents and commercial real estate (sometimes referred to as a "tokenized" or digitized asset).
In addition to reporting on the law and regulation governing blockchain, smart contracts and digital assets, this bulletin will also report on the legal developments to support the infrastructure and ecosystems enabling the use and acceptance of these new technologies.
Each issue will feature in-depth insight on a timely and important current topic. In this issue, we take a look at key issues in blockchain consortium governance.
For related information regarding digital transformation, please see our monthly bulletin, eSignature and ePayment News and Trends.
Blockchain Governance: Key Issues in Governance for Blockchain Consortium
By Mark Radcliffe and Michaël Heene
Although blockchain has suffered from being overhyped in 2017 and 2018, this year many blockchain projects are beginning to operate. Gartner has reported that blockchain technology will create more than $176 billion worth of business value by 2025 and $3.1 trillion by 2030. Blockchain projects are by their nature collaborative, requiring cooperation among multiple participants. The governance of these collaborative organizations is critical to the success of these projects. Read more
- Cyber Unit Chief leaving SEC. The Securities and Exchange Commission (SEC) announced that Robert A. Cohen, Chief of the Enforcement Division's Cyber Unit, will be leaving after 15 years of service. Mr. Cohen is the SEC's first Chief of the Cyber Unit, which focuses on violations involving digital assets and cryptocurrency, cyber-related trading violations such as hacking to obtain material nonpublic information, and cybersecurity disclosures and procedures at public companies and financial institutions. Before the Cyber Unit was formed in 2017, Mr. Cohen was Co-Chief of the Market Abuse Unit.
- SEC delays decision on Bitcoin ETFs. On August 12, the SEC announced it has designated a longer review period to approve or disapprove of Bitcoin ETF products from VanEck SolidX Bitcoin Trust, United States Bitcoin and Treasury Investment Trust, and Bitwise Bitcoin ETF Trust. The United States Bitcoin and Treasury Investment Trust will be approved or disapproved on or before September 29, Bitwise Bitcoin ETF Trust will be approved or disapproved on or before October 13, and VanEck Solid X Bitcoin Trust will be approved or disapproved on or before October 18.
- IRS sending letters to virtual currency owners advising them to pay back taxes. On July 26, 2019, the IRS announced that it "has begun sending letters to taxpayers with virtual currency transactions that potentially failed to report income and pay the resulting tax from virtual currency transactions or did not report their transactions properly."
- Congressman reintroduces virtual currency tax bill. On July 25, Representative Ted Budd (R-NC) introduced H.R. 3963, Virtual Value Tax Fix Act of 2019, which seeks "to amend the Internal Revenue Code of 1986 to allow exclusion of gain or loss on like-kind exchanges of virtual currency." The bill was previously introduced in the 115th Congress as H.R. 7361.
- Senate Committee hearing on blockchain and digital currency regulatory frameworks. On July 30, the US Senate Committee on Banking, Housing and Urban Affairs held a hearing entitled, "Examining Regulatory Frameworks for Digital Currencies and Blockchain." The topics covered included: Regulatory Uncertainty over Digital Assets and the Federal Reserve's Faster Payments Initiative. Committee Chairman Michael D. Crapo commented that blockchain technology is "inevitable" and has the potential to be "highly beneficial." Those invited to speak were Jeremy Allaire, Circle CEO who also represented the Blockchain Association; Rebecca Nelson, a member of the Congressional Research Service specializing in international trade and finance; and Mehrsa Baradaran, a law professor at the University of California, Irvine School of Law.
- CFTC says LedgerX bitcoin futures proposal not yet approved. As previously reported in last month's newsletter, the US Commodities Futures Trading Commission (CFTC) approved LedgerX as a designated contract market. On August 1, the CFTC reportedly issued a statement in which it clarified that LedgerX's proposal to offer physically-settled bitcoin futures has "not yet been approved," despite prior reports from the company that it had been approved. LedgerX still needs CFTC approval for an amendment to its derivatives clearing organization license to offer bitcoin futures.
Status of blockchain adoption. As of August 20, the following nine states have amended the state’s Uniform Electronic Transactions Act (UETA) to define "blockchain" or "smart contracts" and state that such constitute electronic records: Arizona, Arkansas, Nevada, North Dakota, Ohio, Oklahoma, South Dakota, Tennessee and Washington. Additionally:
- Utah enacted laws related to money transmission and defined "blockchain";
- Vermont enacted a law providing that records created using “blockchain” are admissible into evidence as business records with an appropriate declaration; and
- Wyoming has enacted many laws related to the use of “blockchain”; however, those laws do not amend the Wyoming UETA or make records created using blockchain as enforceable as tangible documents.
Blockchain implementation research coming to New Jersey. Governor Phil Murphy signed into law S2297 on August 8, establishing the New Jersey Blockchain Initiative Task Force. The task force will study blockchain technology, including:
- Opportunities and risks associated with using blockchain and distributed ledger technology;
- Types of blockchains, both public and private, as well as consensus algorithms;
- Projects and use cases currently under development in other states and nations, and how those cases could be applied in New Jersey; and
- How the legislature can modify current state laws to support secure, paperless recordkeeping.
Within 180 days of its initial meeting, the task force will issue a report, which will include the costs and benefits of government agencies utilizing blockchain technology and recommendations concerning the feasibility of implementation.
Maryland joins "Operation Cryptosweep." The Maryland Attorney General announced on August 14 that the Maryland Securities Division is participating in "Operation Cryptosweep," a crackdown on fraudulent ICOs and cryptocurrency investment schemes coordinated by the North American Securities Administration. The Operation consists of NASAA members from more than 40 jurisdictions throughout North America. In 2019, 35 enforcement actions against Initial Coin Offerings and cryptocurrency-related investment products have been completed by state and provincial securities regulators in the United States and Canada participating in the Operation.
- Nevada regulators now require money transmitter license for crypto ATM operators. Reportedly, Nevada's state regulatory team changed its interpretation of a money transmitter under Nevada law to include cryptocurrency kiosks. Kiosks must now be licensed in the state and meet a surety bond requirement of $10,000 upfront and $5,000 per kiosk location. Under the new interpretation, any transfer of value – money, credit, virtual currency or other – falls under the license requirements.
- NY DFS grants charter to virtual currency trust company. On August 16, the New York Department of Financial Services (DFS) announced it granted a charter to Bakkt Trust Company LLC, a digital asset service provider, allowing it to provide custody services for bitcoin in conjunction with the launch of physically delivered bitcoin futures contracts trading on the Intercontinental Exchange (ICE) Future US.
- Chamber of Digital Commerce publishes "Understanding Digital Tokens" 2nd edition. The Chamber of Digital Commerce announced it is publishing the second edition of its "Understanding Digital Tokens." The second edition will be released as a series of reports allowing a deep dive into the regulatory and market token landscape, its complexities, and the supporting trends, facts and figures. The first two reports of the second series have been published - Considerations and Guidelines for Securities and Non-Securities Tokens and Market Overviews and Trends in Token Project Fundraising Events. This second edition serves as a follow-on to the Chamber's initial report released in 2018.
- SEC publishes no-action letter for an ERC-20 token. On July 25, the US Securities and Exchange Commission (SEC) Division of Corporate Finance issued its second No-Action Letter supporting a blockchain digital token distribution. The letter was issued to Pocket Full of Quarters Inc. (PFQ), a startup founded to create online gaming credits, called Quarters, that can be used across gaming platforms. The Quarters are ERC-20 tokens. Quarters will have no value outside PFQ or participating games on the PFQ platform. The letter stated the SEC will not recommend enforcement based the issuance of Quarters tokens for online gaming without PFQ registering the Quarters under the Securities Act and the Exchange Act.
- SEC seeks to freeze assets of Veritaseum. The SEC filed on August 12 an emergency action in the US District Court of the Eastern District of New York against Reginald Middleton, organizer of the $14.8 million Veritaseum Inc. initial coin offering. The SEC alleges Middleton conducted a fraudulent and illegal ICO of "Veri Tokens" and then manipulated the cryptocurrency securities' value. The agency seeks to freeze the remaining $8 million in assets held by Middleton and Veritaseum, and is suing Middleton for securities fraud.
- SEC settles with crypto startup PlexCorps. The SEC has submitted for court approval a proposed settlement with defendants Dominic Lacroix, Sabrina Paradis-Royer and PlexCorps resulting from the issuance of PlexCoin in an ICO allegedly in violation of securities laws. As reported, the settlement includes payment of $1 million in civil penalties by both Lacroix and Paradis-Royer, and PlexCorps must disgorge $4.56 million, in addition to $350,000 in interest. The suit was initially filed by the SEC in December 2017 after PlexCorps' $15 million ICO.
- SEC issues Cease and Desist Order against healthcare blockchain company. On August 12, the SEC announced it issued a Cease and Desist Order against SimplyVital Health Inc. for failure to register its digital tokens, known as Health Cash, in a presale before its ICO in 2017, and failure to verify the accredited investor status of potential investors. SimplyVital consented to the order's entry and had returned "substantially all" of the $6.3 million it raised. The order requires SimplyVital to refrain from further securities violations.
- DOJ charges principal of virtual currency custody company. On July 25, the US Department of Justice (DOJ) announced it unsealed a complaint against Jon Barry Thompson, the principal of Volantis Escrow Platform LLC, for two counts of commodities fraud and two counts of wire fraud, with each count carrying maximum sentences of 10 to 20 years, respectively. Thompson allegedly accepted a total of $7 million to purchase and take custody of bitcoin. Thompson allegedly claimed to be an expert investor and custodian of bitcoin, convincing at least two companies to wire him millions of dollars to purchase bitcoin. According to the complaint, Thompson never gave the companies any bitcoin, and he misappropriated thousands of dollars from the investor funds and falsified account statements to conceal the fraud. He is charged with making false representations to two companies in connection with bitcoin transactions related to cryptocurrency companies Volantis Escrow Platform LLC and Volantis Market Making LLC, which he controlled.
- Texas securities regulator issues Cease and Desist Order. On August 6, the Texas State Securities Board (TSSB) issued an Emergency Cease and Desist Order against Forex and Bitcoin Trader (aka Forex & Bitcoin Traders; FX & Bitcoin Trader; and FX & Bitcoin), a New York-based virtual currency investment company, for offering for securities products related to virtual currencies without registering with the TSSB, and fraudulent activity related to the offer of unregistered investment products. The defendants had advertised using Craigslist Dallas, touting 900 percent gains for two-week investments.
- California indicts cryptocurrency exchange. On July 25, the US Attorney’s Office in the Northern District of California indicted BTC-e, a cryptocurrency exchange, and Alexander Vinnik, BTC-e senior executive, for money laundering and operating an unlicensed exchange and unlawful money services business. BTC-e allegedly advertised as an anonymous way to trade cryptocurrency and reportedly traded over $296 million in more than 21,000 bitcoin transactions. California asserts that many of those trades were proceeds from illegal activity. The defendants face penalties of over $100 million. Vinnik, a Russian national, was arrested in Greece, and the US and Russia are both seeking his extradition.
- New Jersey sues blockchain-driven online rental marketplace. The New Jersey Attorney General, on July 18, announced that the state filed a complaint against Pocketinns Inc. and its president, Sarvajnya G. Mada. The lawsuit alleges the defendants offered and sold more than $410,000 of unregistered securities in the form of a cryptocurrency called "PINNS Tokens." The Attorney General seeks an injunction, civil monetary penalties, rescission and restitution.
- New Jersey charges unlicensed money-transmitter. The New Jersey Attorney General announced that the state has charged William Green on July 24 for operating an unlicensed money-transmitting business wherein he charged customers fees to convert more than $2 million into bitcoin via his website, called "Destination Bitcoin." Green never obtained the proper state licenses and faces a maximum penalty of five years in prison and a $250,000 fine.
- New Jersey issues Cease and Desist Orders against two ICOs. On August 7, the New Jersey Office of the Attorney General announced it issued emergency Cease and Desist Orders against two cryptocurrency investment companies conducting initial coin offerings (ICOs). The orders were issued as part of "Operation Cryptosweep," a crackdown on fraudulent ICOs and cryptocurrency investment schemes coordinated by the North American Securities Administration. The first order alleges Zoptax LLC offered unregistered securities through its website in the form of Zoptax Coins, in an ICO ranging from $500,000 to $3.4 million. The second order alleges Unocal offered on its website unregistered securities in the form of Unocal tokens and investments in its "staking program." Unocal is also charged with making materially false and misleading statements, advertising guaranteed interest of "0.81% - 0.88%" per day. Both companies have 15 days to respond to the order and request a hearing.
FATF updates its anti-money laundering and counter-terrorist financing standards.
More from DLA Piper
DLA Piper is pleased to announce the release of a special report, "Cryptocurrency and its impact on insolvency and restructuring," prepared on behalf of INSOL International. Among its findings: the rise in the use of cryptocurrencies has begun to create difficulties for the administration of bankruptcy cases.
In case you missed it
See eSignature and ePayment News and Trends, July 2019.
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DLA Piper has released an analysisof the July 31 FCA policy statement PS19/22: Guidance on Cryptoassets, which sets out the FCA's final guidance on whether dealings involving cryptoassets require authorization under FSMA.
Effective January 1, 2020, a game-changing privacy law will go into effect in California, the California Consumer Privacy Act of 2018. The CCPA will have profound implications for businesses that collect personal information about persons in California, even if the business is not based in the state. Find out more on our CCPA focus page.
Learn more about our Blockchain and Digital Assets practice by contacting any of our editors:
Margo H.K. Tank
Michael D. Hamilton
Edward J. Johnsen
Andrew W. Grant