Potential Solution to Patchwork of State Virtual Currency Laws
June 29, 2018
Numerous States Have Adopted Their Own Virtual Currency Laws or are Currently Considering Legislative Proposals
One of the roadblocks holding back the growth of virtual currency is the lack of uniform regulations. As the Bitcoin and Ether blockchain-based currencies have now gained legitimacy, and other “virtual currencies” are seeking to gain legitimacy, states are creating their own regulatory schemes, resulting in a patchwork of overlapping and varying virtual currency laws for businesses, users, and investors.
State Blockchain Laws
Numerous states have adopted blockchain laws or are currently considering legislative proposals. Delaware was one of the first states in the country to adopt blockchain-friendly laws. The state authorizes corporations to use the technology to maintain shareholder lists, as well as other corporate records. Delaware has also launched several pilot projects that are testing how to use blockchain to store corporate and government filings.
As detailed in greater depth in our prior articles, New York is one of the first states to regulate the digital currency industry. In 2015, the New York State Dept. of Financial Services (NYSDFS) adopted “BitLicense” rules, which are designed to regulate virtual currency-related businesses. Notably, businesses must obtain a license, commonly referred to as a “BitLicense,” prior to engaging in any virtual currency business activity. To date, the agency has awarded virtual currency charters or licenses to nine businesses. However, it has denied licenses and charters to companies that did not meet its standards.
Uniform Regulation of Virtual Currency Act
The lack of uniform rules has hampered the adoption of blockchain technology. In response, the Uniform Law Commission drafted a uniform model state law, known as the Uniform Regulation of Virtual-Currency Businesses Act (URVCBA). The law was finalized late last year and is currently under consideration in several states, including Connecticut, Hawaii, and Nebraska.
The Uniform Law Commission was founded in 1892 “to promote uniformity in law through voluntary action of each state government.” While it has drafted more than 300 model laws, its most well-known and widely adopted model law is the Uniform Commercial Code (UCC).
In drafting the URVCBA, the Uniform Law Commission aims to provides a statutory framework for the regulation of companies engaging in “virtual-currency business activity.” It was drafted in consultation with a number of key stakeholders, including the U.S. Treasury Department, the Conference of State Bank Supervisors, the Federal Reserve Bank of New York, and several state agencies.
Under the URVCBA, “virtual currency” is a digital representation of value that is used as a medium of exchange, a unit of account, or store of value and is not legal tender. This definition aims to cover as many types of virtual currency as possible. However, the definition expressly excludes merchants’ rewards programs or equivalent types of values on online game platforms.
Regulating Virtual-Currency Business Activity
The URVCBA only applies to companies engaged in “virtual-currency business activity” that assume or maintain “control” over a client’s virtual currency. “Control” is defined as the power to execute unilaterally or prevent indefinitely a virtual currency transaction. Meanwhile, “virtual-currency business activity” is defined as:
- Exchanging, transferring, or storing virtual currency;
- Engaging in virtual currency administration, whether directly or through an agreement with a virtual currency control-services vendor;
- Holding electronic precious metals or electronic certificates representing interests in electronic precious metals on behalf of another; or
- Exchanging digital representations of value within online games or game platforms for virtual currency or legal tender.
The URVCBA contains a three-tier regulatory scheme that determines whether an individual or company engaging in virtual currency business activity is (1) exempt from the law; (2) must register; or (3) must obtain a license.
- Tier One: Businesses with annual virtual-currency activity of $5,000 or less are fully exempt from the law.
- Tier Two: Businesses with annual virtual-currency activity of more than $5,000 but not in excess of $35,000 must register with the state and meet certain less-stringent regulatory requirements. The registration tier functions as a “regulatory sandbox” because it allows companies to focus on innovation and experimentation while they are in the early stage of business development. Businesses in the registration tier may operate as registrants for up to two years, so long as they remain under the $35,00 threshold.
- Tier Three: Businesses with annual virtual-currency activity of more than $35,000 must obtain a license and are subject to all of the law’s requirements.
An application for a license under the URVCBA must include information such as: (1) a description of the applicant’s current business; (2) a description of the applicant’s business for the previous five years; (3) a list of the money transmission licenses the applicant holds in other states; and (4) lawsuit and bankruptcy history of the applicant and the applicant’s executive officers.
The URVCBA includes two methods for an enacting state to authorize reciprocal licensing under the Act. Either the enacting state can choose to participate in the Nationwide Multistate Licensing System and Registry or the state can authorize reciprocity on a bilateral or multilateral basis.
The URVCBA also contains several consumer protections. Notably, it requires businesses to make certain disclosures to potential customers regarding their products/services, such as fees charged and insurance coverage availability. It also mandates that businesses have data security, disaster recovery, anti-money laundering, and anti-fraud policies and procedures in place.
The URVCBA does not contain commercial law rules for covered transactions, which is another area where comprehensive regulation is notably absent. However, the Uniform Law Commission is currently working on another model law. The companion act is intended to address the commercial law rights of virtual-currency businesses that have control over their customers’ virtual currency and, in particular, providing to those businesses and customers duties and rights comparable to those enjoyed by customers of securities intermediaries under Article 8 of the Uniform Commercial Code.
Please stay tuned for a post on the draft law, as well as other legal issues related to perfecting a UCC security interest in virtual currencies. Given that the regulations governing blockchain and virtual currencies are continually evolving, we also encourage businesses in these industries to contact our experienced business attorneys with any compliance questions.
If you have any questions, please contact us
If you have any questions or if you would like to discuss the matter further, please contact me, Dan Brecher, or the Scarinci Hollenbeck attorney with whom you work, at 201-806-3364.