By Elijah Alper
As the public becomes more and more aware of Bitcoin, the debate has intensified over who should, or can, regulate it. That question has become more urgent with the recent bankruptcy of the Bitcoin exchange Mt. Gox, which may have cost more than one million customers over $400M in Bitcoin. Mt. Gox is not a bank, so these funds were uninsured, and some customers lost their life savings.
On this question, the Bitcoin camp is divided between enthusiasts who see it as an alternative to government currency that cannot and should not be regulated by any state, and those believe Bitcoin must be regulated in some fashion to become widely accepted.
This debate, while interesting philosophically, is not all that important legally.
The belief that the U.S. government would uniformly decide whether to regulate Bitcoin is incorrect. Regulators will not be making a moral judgment about whether Bitcoin “should” be regulated. Their decision is simpler:
- If a Bitcoin is deemed to be a type of already regulated product, like a security, then Bitcoin will be regulated by the appropriate regulator, and the degree of regulation depends on the type of product.
- If a Bitcoin is not one of these, then any regulation will be relatively light.
The key question then, is what exactly is a “Bitcoin?”
- Is a Bitcoin a type of currency? No. The U.S. regulatory consensus is that a Bitcoin is not a currency because it does not have legal tender status in the U.S. or any other country, and Bitcoin is not backed by a government.
- Is a Bitcoin merely a “thing of value?” This is the current position, and one where Bitcoin is regulated relatively lightly. FinCEN has said certain Bitcoin exchanges or administrators are money transmitters under existing rules. Others, such as Bitcoin miners and investors, are not money transmitters. Money transmitters have federal registration and some anti-money laundering requirements, but they are far less regulated than banks, securities firms, or other financial institutions.
- Is a Bitcoin a consumer financial product? If so, Bitcoin transactions with consumers may be subject to heavy regulation by the Consumer Financial Protection Bureau (CFPB), which oversees about two dozen consumer financial laws. Commercial Bitcoin transactions would be largely exempt from such rules.
- Is a Bitcoin a regulated commodity? If so, Bitcoin would be moderately regulated by the Commodities Futures Trading Commission (CFTC), with significant restrictions on swaps, futures, and other transactions in which Bitcoin was not actually delivered for some time after the purchase, if at all. The CFTC would look for price manipulations and may require transactions to take place on exchanges.
- Is a Bitcoin a security? If so, Bitcoin would become heavily regulated. Issuers would likely have to register with the SEC, parties may have public reporting obligations, and above all, transactions would be subject to insider trading and anti-fraud rules.
Deciding what a Bitcoin “is” is critical because although FinCEN has had the first official word in Bitcoin regulation, it may be “overruled” by other regulators. Bitcoin exchanges and administrators must register as Money Services Businesses (MSBs), a broad category of financial entities that includes money transmitters.
Persons regulated by the SEC or CFTC by definition cannot be MSBs and are largely exempt from CFPB regulations. So, if the SEC or CFTC decides that Bitcoin is a security or commodity, then FinCEN’s existing guidance may not apply where SEC and CFTC rules do.
The answers to these questions require a legal analysis well beyond the scope of this blog. But, players in the Bitcoin market should realize just how critical these questions are in determining what Bitcoin regulation will look like in the future, and how it dwarfs any philosophical debate.
To learn more about Bitcoin and other virtual currency, please go here to register for a program offered by the Corporation, Finance and Securities Law Section. Elijah Alper will be moderator of this event.
This material does not represent legal advice as to any particular set of facts; nor does it represent any undertaking to keep recipients advised of all legal developments.