Over the last 7years, crypto-currencies have evolved tremendously and increasingly established itself as a payment system globally. Today, crypto-currencies are a Multibillion-dollar venture with dual potential as both an investment and an electronic medium of exchange. Increasingly, mainstream retailers are announcing plans to accept bit-coins. Bit-coin ATMs are growing in prominence; the first bit-coin debit cards were launched by an Hong Kong domiciled company called Xapo in the year 2014 and the first Bit-coin derivative transactions have been executed on a US-regulated exchange. Yet, there remain numerous risks and challenges associated with crypto-currencies. In addition to experiencing significant volatility in exchange rate and susceptibility to attacks from illicit users and cybercriminals; the crypto-currency marketplace remains largely unregulated. Governments around the globe are taking widely divergent actions- or taking no action at all- to define and regulate crypto-currencies. This article is an attempt to provide some context for the crypto currency landscape, including regulatory and law enforcement developments.
WHAT ARE CRYPTO-CURRENCIES?
Crypto-currencies are decentralized peer-to-peer payment systems that are digital representations of value and can be transferred, stored and traded electronically. At their core, they are distinct from other digital payments (e.g PayPal, Facebook Credits, airline and hotel miles) because they provide intermediate party. They do not have legal tender status; they operate with no central authority or banks, and their issue is carried out collectively by a distributed network. While the transaction between buyer and seller is direct, the identities of the parties are encrypted and therefore no personal information is transferred. However, crypto-currency transactions such as bit-coin transactions are not fully anonymous. A transaction record of every bit-coin and every bit-coin user’s encrypted identity is recorded on a public ledger. As a result, it is most appropriate to characterize bit-coin and many other crypto-currencies as pseudonymous as opposed to being anonymous. This pseudonymity, combined with its efficient and decentralized nature, makes it appealing to both consumers and criminals alike.
Today, there are several hundred (if not thousands) of crypto-currencies in existence with a current market capitalization as at April 2018 of over $200bn. The bit-coin system is the most prominent and perhaps most dominant crypto-currency. Other mineable crypto-currencies with sizeable market capitalization include ButsharesX, Peercoin and Dogecoin.
While these descriptions provide a helpful understanding of what crypto-currency is, they do clarify the role of crypto-currencies in the modern financial system. Are they a commodity, a currency? Policy makers and regulators are still trying to answer these questions. The department of Treasury’s Financial Crimes Enforcement Network (FinCen) has defined crypto-currency as a medium of exchange that operates like currency in some environments, but does not have all the attributes of real currency, does not have legal tender status in any jurisdiction.
In its recent ruling, the Internal Revenue Service (IRS) held that crypto-currency would be treated as property, not currency, for tax purposes. And a Former Acting Commissioner of the Commodity Futures Trading Commission (CFTC) stated his belief in May 2013, that bit-coins would be likely to be considered a commodity under the Commodity Exchange Act.
In March 2018, the Bank of England’s Head of Finance Stability Board Mr. Mark Carney while in agreement with the U.S. Securities and Exchange Commission (SEC) to classify crypto-currencies as securities subject to laws governing how they are issued and traded stated inter alia thus “For many reasons the crypto assets in your digital wallets are unlikely to be the future of money, but that is not meant to dismiss them. Their core technology is already having an impact. Bringing crypto-assets into the regulatory tent could potentially catalyze innovations to serve the public better”.
Carney posited that the crypto ecosystem should be held to the same standards as the rest of financial system, which will bring great privileges, but also greater responsibility.
LEGAL AND REGULATORY FRAMEWORKS OF CRYPTOCURRENCY
Crypto-currency and wokings of its respective platforms have all the semblance of a Ponzi scheme, this similarity will be treated anon. Owing to the fact that Crypto-currencies transcend traditional Sovereign jurisdictions, financial regulators globally, have diverse opinions and approaches on the phenomenon, and are struggling to agree on market standards, amid fears of crypto-currency bubble.
In December, 2013, the Chinese Central Bank and four other regulatory bodies jointly issued the Notice on Precautions against the Risks of Bit-coins (the Joint Chinese Notice). In an Echo of the IRS ruling, the Joint Chinese Notice defined Bitcoin as a virtual commodity and found that it was not a currency, and therefore should not be circulated and used in the Market as such. Banks and payment institutions in China may not deal in bit-coin but the Central Bank clarified that it was not prohibiting trading in crypto-currencies, however, it is apparent that the Chinese investor interest in Bit-coin has been tempered. In September, 2017 the Chinese government quickly moved to ban Initial Coin Offering (ICO), viewing them as illegal means of financing. It also launched an investigation into 60 local platforms dedicated to managing them; South Korea Followed suit, introducing an ICO ban later that month. It is however an entirely different story in many other developed economies with strong legal frameworks, including Australia, Canada, the European Union, Hong Kong, Singapore, the United Kingdom and the United States. Regulators in these jurisdictions are now looking to treat a coin that functions like a security in a similar way as it would be under their existing domestic securities laws. Japan, an early adopter of ICOs, has more than ten regulated bit-coin exchanges, controlling a large chunk of global market. A key topic in various jurisdictions is to try to put ICOs under the umbrella of the Local Securities laws, but there is no best practice yet globally. Recent survey has revealed that ICOs are looking to avoid being defined as a security, so trying to regulate them seems to conflict with the purpose of ICOs and Crypto-currencies. Such inconsistency is breeding uncertainty among marketers.
In the United States, the SEC has taken actions in two forms: various enforcement actions and the issue of investor advisory notices. Recent actions indicate that even in the absence of new regulations specifically addressing crypto-currency, the SEC has significant existing authorities to regulate a wide range of matters involving bit-coin. The first SEC enforcement action relating to crypto-currency occurred in July 2013, when the SEC charged Trendon Shavers of Texas with defrauding investors in Bit-coin-denominated Ponzi scheme. Shavers, the founder and the operator of Bit-coin savings and trust, offered and sold bit-coin-denominated investments online, raising at least 700,000 Bit-coins in what was allegedly a Ponzi Scheme. In September, 2014, a US Federal Judge found that the SEC established that the Company was a Ponzi Scheme, and ordered Bit-coin Savings and Trust and Shavers to Pay a combined $40.7m. In so finding, the court held that the Bit-coin investments at issue qualified as investment contracts and securities under the Securities Act of 1933, as amended, and the Exchange Act of 1934, as amended. The finding that Bit-coins are properly treated as securities is likely to have broad implications in the future. In conjunction with the civil enforcement action, SEC issued an investor alert at the same time, warning investors of the dangers of Ponzi schemes and other potential scams using crypto-currencies. In the alert, SEC expressed its concern that heightened use of crypto currencies may entice fraudsters to lure investors into Ponzi and other schemes in which these currencies are used to facilitate fraudulent or simply fabricated investments or transactions.
Numerous other measures have been taken including suspension of companies using mobile platforms to facilitate bit-coin trading. However, the New York department of financial Services (NYDFS) has adopted one of the most aggressive stances when it comes to crypto-currencies, and it became the first state in the US to propose a robust regulatory framework for crypto-currencies. In 2014 the NYDFS requested proposals from firms to set up regulated exchanges from crypto-currencies all in a bid to strengthen oversight including robust standards for consumer protection, cyber security and anti-money laundering compliance.
In 2014, the Canadian Parliament adopted an amendment to its proceeds of crime (Money Laundering) and Terrorist Financing Act that will treat crypto-currency as Money service businesses for the purposes of the Canadian Anti-money laundering law. As a result, companies dealing in Crypto-currencies will be required to register with the Financial Transactions and Reports Analysis Centre of Canada, implement compliance programmes, maintain records, report suspicious or terrorist-related property transactions and determine if any of the customers are politically exposed persons.
In Nigeria, there is no clear legal or regulatory framework (to the best of the writer’s knowledge) with respect of crypto-currency. Although during the MMM saga the MPC issued a statements warning members of the public not to be vulnerable to Money-doubling Ponzi Schemes which are unapproved and unregulated by the CBN, this includes the numerous Bit-coin related investments which are fast emerging in Nigeria promoted by some Nigerian based platforms and some foreigners alike. In a whole, there is a consensus across the various jurisdictions that crypto-currencies are susceptible to all manner of crimes because Bit-coin transactions can be very difficult to trace, and often cross multiple legal jurisdictions, it is hard for law enforcement to track or seize criminal profits. The FBI has published its concerns about Bit-coin, particularly the lack of regulation for offshore services that may be used by criminals as a safe haven for criminal conduct. Albeit, so the attraction to the numerous investing public is not diminishing, this perhaps increases the conundrum associated to the subject matter.