Why States Will Proceed To Regulate Bitcoin Use

Regulators continue to debate how cryptocurrencies like bitcoin are defined and whether they are securities, commodities, real estate, etc., which is critical to how regulators enforce these regulations.

Speaking at the recent National Association of Attorneys General Consumer Protection Conference in November 2021, SEC Commissioner Hester Peirce commented on the issue, saying, “The view we have these days is that pretty much everything is a security. ”

While the public has scrutinized nebulous and sometimes conflicting statements by federal regulators on cryptocurrency enforcement, two recent lawsuits against BlockFi and Celsius — companies that let consumers buy, borrow, and trade bitcoin — make it clear that state regulators were taking coordinated action to regulate bitcoin-related investment products and exchanges that offer unregistered securities.

The unwillingness of state regulators to sit on the sidelines and monitor the Feds’ opinion on the right regulatory regime is consistent with how states have positively cited the charge regulating other emerging bitcoin-related technologies. State regulators are not scrutinizing bitcoin even with the most recent enforcement actions, instead targeting the technological innovations being driven by bitcoin.

These researched technologies often involve Bitcoin and other cryptocurrencies, increasing the inherent risk for investors and consumers investing in Bitcoin. Due to the volatility of the bitcoin price, legal investigations into new technologies can affect the price of bitcoin and thus turn out to be consumer protections that require further action from government regulators.

All players in cryptocurrencies should keep an eye on the political priorities of the states, because the states clearly keep an eye on them.

Government regulatory actions against bitcoin, cryptocurrency projects

In recent years, state regulators — primarily attorneys general and securities regulators — have charged themselves with regulating perceived consumer harm. They are acting to fill a perceived void left by the federal government, which they say is too slow, legally limited, or uninclined to do so itself, depending on the administration. Examples abound and include privacy, e-cigarettes, cannabis and social media. Similarly, in the absence of comprehensive federal government regulation regarding cryptocurrency, state regulators are actively pursuing enforcement against interest-bearing cryptocurrency accounts.

Until April 2018, government enforcement of cryptocurrency was relatively light and focused on eliminating blatant consumer fraud. That changed in April 2018 when the North American Securities Administrators Association (NASAA) initiated Operation CryptoSweep, in which 40 securities regulators across North America organized a task force to share information and coordinate actions against various cryptocurrency companies involved in Bitcoin and others trade virtual currencies.

It is no coincidence that the same month, the New York Attorney General launched an investigation into 13 major cryptocurrency platforms to gain a better understanding of each company’s internal controls and protection of consumer assets.

In just over three and a half years, state securities regulators have issued more than 50 cease and desist orders for currency-related investment products, primarily related to Initial Coin Offerings (ICOs) for failure to register and provide resulting statements to investors. Traditionally initiated by a state, these enforcement actions have resulted in the voluntary cessation of the ICO with fines and a promise not to offer unregistered ICOs in the future.

The scope of who can be tasked with overseeing the safety and soundness of a cryptocurrency product was expanded in September 2020 when the Massachusetts Attorney General fired payment processor Stripe, Inc. for allegedly improperly facilitating transactions by individuals involved in the PlexCoin ICO were prosecuted. resulting in the fraudulent and unregistered offering and sale of cryptocurrency. To resolve the claims, Stripe committed to improving its risk monitoring procedures, in addition to paying $120,000.

States show coordinated force in recent enforcement actions

In recent months, states have moved from individual action to multi-state enforcement actions against two of the largest cryptocurrency platforms: BlockFi and Celsius Network. Both companies have been accused of offering unregistered securities under the guise of high-yield accounts that allowed investors to use cryptocurrencies like bitcoin to earn interest at a higher annual percentage return than traditional banking institutions. Both companies use the accounts to fund their lending and proprietary trading. The measures stemmed from concerns by government regulators about increased levels of risk for investors.

To underscore the seriousness of this expansion of enforcement, these actions have been coordinated by several states, usually drawn from across the political spectrum. In July, New Jersey, Texas, Alabama, Vermont, and Kentucky issued injunctive reliefs or plea orders against BlockFi. In September, New Jersey, Texas, Alabama and Kentucky again joined forces to file similar lawsuits against Celsius. In October, Celsius announced that it had received a request for information from New York.

Specifically, New Jersey and Kentucky issued cease and desist orders against BlockFi and Celsius, asking them to stop offering interest-bearing accounts as they are classified as unregistered securities. The New Jersey orders classify the accounts as offering unregistered securities because the “[i]nvestor relinquishes control of deposit cryptocurrency” and BlockFi and Celsius are “free to use these assets” as they see fit. The accounts are not registered with any state or federal securities commission. The orders emphasize that these programs appear to pose a greater risk to investors due to the lack of regulatory oversight.

The concerted action of states conveyed a unified emphasis on investor protection. In a Sept. 17 press release, New Jersey Acting Attorney General Andrew Bruck said the action was intended to send a broader message: “Financial companies involved in the cryptocurrency market are in the know. If you sell securities in New Jersey, you must comply with New Jersey investor protection laws. Cryptocurrency trading companies are not immune to oversight.”

Based on past experience, we expect further enforcement action to be taken against other bitcoin platforms that use similar business models.

Effects of the official measures

This year, one in ten Americans invested in cryptocurrency, and the price of bitcoin rose to an all-time record in November 2021. The rise of cryptocurrency also means increasing regulatory scrutiny, particularly from government regulators focused on consumer protection. It is commonplace for states to act in a coordinated manner. State regulators have biweekly or monthly calls to discuss companies they are investigating or enforcement actions they are taking. It would be unwise to think that the 46 state regulators that haven’t taken action against BlockFi and Celsius aren’t paying close attention to those actions.

Nonetheless, each of these regulators is a sovereign in its own right. Even if four or five sovereign entities take coordinated action, each action must be consistent with each state’s goals and priorities. Observers should not make the mistake of thinking that coordinated action equals like-mindedness on all issues, even within one industry.

However, one thing is clear: when states have a common goal of consumer protection and agree that a specific measure will achieve that goal, states will not hesitate to take action against suspected offenders in a coordinated manner throughout the aisle. Because of this, we are likely to see continued coordinated enforcement action by states to regulate alleged violations of existing state laws.

This is a guest post by Stephen Piepgrass, James Stevens, Chris Carlson, and Namrata Kang. The opinions expressed are solely their own and do not necessarily reflect those of BTC Inc or Bitcoin Magazine.

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