On September 21, 2015, Trendon Shavers became the first person to plead guilty to a bitcoin-based securities fraud. About a year earlier, in the fall of 2014, he was charged by the United States Attorney for the Southern District of New York with running a bitcoin-based Ponzi scheme. The prosecutors charged that Shavers sold Bitcoin investments over the internet and guaranteed his investors returns of up to seven percent per week. Shavers exchanged investors’ Bitcoin for U.S. dollars that he used to pay his personal expenses and continued his scheme by using new Bitcoin investments to pay outstanding interest payments to existing investors. In a separate action brought by the Securities & Exchange Commission in Texas, Shavers had a civil judgment entered against him and was ordered to pay more than $40,000,000 in disgorgement and prejudgment interest, as well as a $150,000 civil penalty.
The day after Shavers pled guilty, the New York State Department of Financial Services (“NYDFS”) issued its first stand-alone "BitLicense" to Circle Internet Financial Ltd. (“Circle”), a Boston-based Bitcoin startup that allows the users of its mobile applications to transfer funds using traditional curriencies or Bitcoin, without requiring users to convert between different forms of currency. The BitLicense regime is the most recent governmental effort to regulate the decentralized world of virtual currency.
NYDFS’ BitLicense regime is intended to regulate digital currency markets, by protecting consumers and “root[ing] out” illicit activity and fraud. New York is the first state to establish a stand-alone regime requiring financial intermediaries, which transmit, buy, sell, store, exchange or administer virtual currency, to obtain a BitLicense. Interestingly, customers, software developers and businesses that only accept or use virtual currency are not subject to this requirement. Previously, NYDFS granted ItBit, a global exchange platform for bitcoin, a banking license, making it the first virtual currency company to receive a charter under the state’s banking laws.
To be issued a BitLicense, applicants pay a $5000 fee and undergo an investigation of their financial condition, character, and experience. Once issued a license, the virtual currency firms are subject to a variety of capital, consumer protection and anti-money laundering requirements similar to those imposed upon financial institutions handling traditional currencies. These include minimum capital adequacy, disclosure of information regarding
officers, banking arrangements, and valuation among others, and anti-fraud and anti-money laundering compliance programs.
A number of virtual currency firms have boycotted the NYFDS framework by ceasing to offer their services to New York residents, claiming that a strict regulatory framework would hamper the development of a still-growing business. New York, however, is not alone in attempting to regulate virtual currency transactions.
While falling short of New York’s more comprehensive regulatory framework, California and Connecticut have also enacted measures to manage the booming virtual currency business. California has legalized the use of virtual currency for purchase of goods and services and the California Department of Business Oversight is still considering whether to regulate the virtual currency business. Connecticut amended its existing statute regulating other money services to encompass virtual currencyand now requires all virtual currency businesses operating in the state to obtain licenses from the state’s Department of Banking. This license, subjects these businesses to the same requirements imposed on other money services businesses, including filing of a surety bond sufficient to account for the potential volatility of the digital currency market. The regulation also permits the state regulators to reject an application based on potential risks to consumers. However, unlike New York, Connecticut does not yet subject virtual currency businesses to further compliance and public disclosure obligations. Pennsylvania and North Carolina lawmakers have also proposed similar amendments to existing legislation regarding money services to incorporate regulation of digital currency within their purview.
At Mishcon de Reya, we are following Bitcoin’s emergence and the web of regulatory and litigation issues that surround it. We are uniquely positioned to assist clients with Bitcoin-related legal and regulatory issues in the U.S. and the U.K.