Navigating the Difficult Terrain of Money Transmission Laws

October 20th, 2017

regulations-10-20-17.pngState money transmission laws can be difficult to navigate. Fees, surety bond and net worth requirements make it costly to enter, and significant complications arise when determining whether the requirements apply in the first place. As of June 9, 2017, 49 states and the District of Columbia impose registration and licensing requirements on money transmitters, with varying criteria for what constitutes “money transmission” and which entities are subject to regulation. Determining whether a particular financial services-focused business is subject to these regulations requires a careful review of the rules of each particular state.

This is a significant issue in the blockchain and virtual currency space because many states have yet to issue guidance on the application of state money transmitter regimes to these activities. Although most states define “money transmission” broadly to include any business that transfers money or its equivalent, the precise application of this definition to a particular set of activities can vary significantly among the states.

However, four states have taken specific regulatory action:

New Hampshire
The state enacted House Bill 436 on June 2, 2017, which exempts virtual currency transmitters from licensing requirements, reversing an earlier position. The change in course appears to reflect increasing government acceptance of virtual currency activities and recognition of the potential for regulatory arbitrage by market participants. The law became effective in August 2017.

Illinois
On June 13, the Illinois Department of Financial and Professional Regulation issued guidance on the treatment of virtual currency under its money transmission law. Digital currencies are not considered money, so the regulations will only affect transmitters if they also involve transmitting government-backed foreign or domestic currency. Therefore, virtual currency exchanges would likely have to apply for a license while blockchain tokens companies should be able to avoid licensing if they exchange their tokens exclusively for other virtual currencies, and not for fiat currency.

Washington
Conversely, Senate Bill 5031 requires virtual currency transmitters to be licensed and regulated in the state of Washington. Under the new law, the definition of “money transmission” now reads “receiving money or its equivalent value (equivalent value includes virtual currency) to transmit, deliver or instruct to be delivered to another location…” The new law appears to treat real and virtual currencies equally by requiring both classes of firms to register and be regulated as money transmitters. It also requires virtual currency transmitters to disclosure information regarding their business or activities and, for some, to conduct an audit of their security system. The bill became effective in July 2017.

New York
New York appears to have gone further than any other jurisdiction by creating the BitLicense regime, which includes many new requirements, such as cybersecurity and business continuity standards as well as state approval for a merger or acquisition. Moreover, there is no blanket exemption from the separate money transmitter license. Thus, virtual currency businesses may need to navigate both the BitLicense and the money transmission licensing schemes before they can operate in New York.

While the New Hampshire and Washington laws only recently became effective and the Illinois guidance is still new, the New York BitLicense has been in place for about two years, so its effect can already be seen. As a result of the scheme, several virtual currency companies appear to have left New York for more regulatory friendly states. Also, the scheme has been described as slow and tough, with only three licenses granted as of January 2017 despite many applications.

Thus far, the states have pursued disparate and sometimes divergent approaches to the application of regulatory requirements to virtual currency businesses. Recently, however, there has been a push for greater consistency. For example, the Conference of State Bank Supervisors (CSBS ) recently announced its Vision 2020 initiatives, aimed at making the state laws more uniform while still protecting consumers. Recently, the Uniform Law Commission (ULC) issued a model regulation of virtual currency businesses, which seeks to harmonize the varying treatment of virtual currencies by the states. At the federal level, the Office of the Comptroller of the Currency (OCC) is on the path to establishing a federal fintech charter regime which could potentially preempt the application of state money transmitter laws to chartered entities. If the OCC charter does in fact preempt the application of state money transmitter requirements to chartered entities, this may be enough pressure to strengthen state level initiatives to achieve consistent regulatory outcomes across jurisdictions.

Companies engaged in virtual currency transmission face a daunting set of regulatory requirements. However, there appears to be good things on the horizon with the OCC, ULC or the CSBS uniting the requirements under one regime. Until then, any business using virtual currency should carefully scrutinize the requirements in all states where it has customers.

lschneider

Lee A. Schneider is a counsel at Debevoise & Plimpton LLP, where he heads the firm’s broker-dealer regulatory and fintech practices.

nprakash

Naeha Prakash is an associate at Debevoise & Plimpton LLP.