The New York State Department of Financial Services (“DFS”) has proposed a set of regulations for people and businesses that do business with Bitcoin or other Virtual Currencies. (The text is available here) The proposed regulation is in the comment period until September 18, 2014. This means that anyone with enough interest and spare time can have make sure the DFS hears their opinion.
The proposed set of regulations closely parallels the existing New York regulation for Money Transmitters. Not surprisingly, because last year, in its guidance document, FinCEN said that virtual currency exchanger or an administrator is a money transmitter for the purposes of federal regulations.
If this regulations remains unchanged, or largely unchanged, it will likely serve as a barrier to some businesses that want to enter the virtual currency arena
Potentially Important Definitions
Two definitions are really important here. First, the definition of Virtual Currency itself. And second, what is Virtual Currency Business Activity. The reason these two are kind of a big deal under the regulations, is because those people that deal with virtual currency as a business in New York, must apply for a license. There are certain exemption too.
(1) Virtual Currency
The proposed regulations define virtual currency as “digital unit that is stored as a medium of exchange of a form of stored value that is incorporated into payment system technology.” This encompasses both centralized (think Linden Dollar) and decentralized (think Bitcoin) virtual currencies.
Any virtual currency that cannot be converted into real currency is not considered virtual currency for the purpose of this regulation. This means that DFS will not impose a license requirement on those businesses that operate such virtual currency. This includes things like rewards program or credit card “miles.” Both of these would not fall under the definition of a virtual currency under the proposed regulations and would therefore be exempt from the license requirements.
(2) Virtual Currency Business Activity
Virtual Currency Business Activity means either: (a) getting paid in real or virtual money for transmitting virtual currency for somebody else; (b) storing virtual currency on behalf of others; (c) buying and selling virtual currency as a business; (d) converting virtual currency into Fiat; or (e) controlling, administering or issuing virtual currency.
Though the regulation does not address it, but chances are if you are storing virtual currency on behalf of somebody else as a favor, DFS probably will not consider it as a business activity. Most likely only those people and businesses that store virtual currency on someone else’s behalf will have to apply for a license.
So to reiterate, if a person or a company is engaged with virtual currency as a business in New York, then they must apply for a license with DFS. The only people exempt from this license are those who use virtual currency to buy or sell goods or services. In other words, everyone who wants to accept Bitcoin as a form of payment on their website does not have to get a license from the DFS.
Since the entire proposed regulation is modeled in part on Money Transmitter regulations, the compliance requirements also look similar for the two regulations. Both regulations have capital and bond requirements, duty to report material changes to business, comply with investigations, and requirements to keep certain books and records for a number of years.
(1) Capital and Bond Requirements
The proposed regulation does not state any specific capital requirements a virtual currency business must maintain. Instead it leaves that decision at the discretion of a DFS superintendent. Some of the factors DFS can consider to determine how much capital the virtual currency business must maintain are: total assets and liabilities, actual and expected volume of business activities, or the amount of leverage employed.
While it is hard to predict the minimum capital the business will have to maintain or the bond it will have to post, but once again the regulations for Money Transmitters can serve as a rough gauge. As of today, every Money Transmitter is required to post a surety bond in favor of the DFS with face value of at least $500,000. As you can imagine, $500,000 surety bond can be quite costly.
(2) Material Change to Business
Every license applicant will have to list all the Virtual Currency products and services they intend to offer and have those products an services approved or disapproved by the DFS.
Also, every time a license holder wishes to make a material change to their existing business, they will need approval from the DFS first.
A material change to business means any new product or service, or a change to an existing product or service that is materially different to the one originally applied for.
Material change to business also means any change that may raise legal or regulatory challenge about the permissibility or legality of the proposed product or activity. And material change to business also means anything that in the eyes of the DFS will raise safety and soundness of the existing business. So totally discretionary with the DFS all in all.
(3) Examinations by DFS, Reports and Financial Disclosures, and AML Compliance
Every person or a company who holds a Virtual Currency Business Activity license is required to maintain a record of all transactions that involve virtual currencies, bank statement and bank reconciliation records, as well as numerous other records of communication and anything else the DFS may require.
On demand from the DFS the licensee is required to produce those records and assist in any way possible with any investigation the DFS may want to undertake.
In addition, without going into too much detail, every Licensee must maintain an Anti-Money Laundering Compliance program that is up to the accepted national standard. Any such program must provide for independent testing for compliance, make Suspicious Activity Reports of all transactions exceeding $10,000 etc.
In conclusion, it is likely that after all the hearings on virtual currencies and bitcoin in particular, the DFS knows that these set of regulations will create an entry barrier for some entities, but likely see the consumer protection measures as more important than making the operations of some businesses more difficult.