Cryptocurrencies and digital assets: regulatory challenges

Explore insights from the KPMG report here Ten key regulatory challenges of 2022.

Rapid changes: cryptocurrencies and digital assets

Develop a business/product capability assessment and risk and compliance strategies for appropriate licensing, release and/or use of digital assets.

The current regulatory landscape for cryptocurrencies and digital assets is fragmented and evolving rapidly. Depending on the structure of the business and the underlying facts and circumstances, multiple regulators at the federal and/or state levels may have jurisdiction over a transaction. As the market develops, gaps and overlaps are created; Crypto technology companies are connecting to traditional financial systems, and regulated banking entities are building crypto infrastructure (e.g., custodial services). Efforts to better define an appropriate regulatory regime, including licensing and leasing authorities, may require legislative changes and may also change the relevant markets.

• An interagency report recommends that Congress consider new legislation to ensure that stablecoins and stablecoin arrangements are subject to a federal prudential framework on a consistent and comprehensive basis; additional features would limit issuers to insured depository institutions; entities subject to federal supervision that engage in stablecoin activities (e.g. digital wallets); and limit affiliations between broadcasters and commercial entities.
• Both the SEC and CFTC have expressed interest in gaining greater powers over stablecoins to the extent they are considered securities, commodities, or derivatives.
• International regulatory bodies, such as the FSB, BCBS and FATF, are seeking to apply existing standards and principles to stablecoin agreements and other crypto assets.

Risk and compliance strategies can be influenced by:

• Varying definitions of “virtual currency” at the state or federal level. (A federal definition of “digital asset” was introduced through the Infrastructure Investment and Jobs Act.)
• Uncertainty as to whether a digital asset or related product or service constitutes a security, commodity, or derivative under relevant federal/state laws.
• Meet individual state requirements, such as licensing under the National Multistate Licensing System and Registry (NMLS) for MSB/MTL and Money Transmission Model Act compliance requirements, as applicable.
• Integrate digital asset strategy into existing compliance programs.
• IRS reporting requirements for cryptocurrency and other digital asset transactions starting in 2023.

Establish/enhance internal risk policies, procedures and controls with respect to digital assets and payments.

Regulators focus on protecting consumers and investors across a broad range of risks such as fraud, cybersecurity, data privacy, misconduct, transactions, liquidity, market integrity, market volatility, transparency and money laundering /terrorist financing. The enforcement environment is equally complex, in part due to the Administration’s increased focus on cybersecurity mitigation. Specifically, the DOJ launched a National Cryptocurrency Enforcement Team to investigate and enforce criminal misuse of cryptocurrencies; The SEC and CFTC continue to actively bring enforcement actions in their respective jurisdictions.

• MSBs/MTLs will need to evaluate consumer and investor standards within a digital payments framework as new know-your-customer (KYC), anti-money laundering (AML) and tax regulations evolve at the international, federal and state for stablecoins.
• Cryptocurrency exchanges, brokers and other market participants should establish a framework for evaluating whether a current or proposed offering constitutes a security under state and federal securities laws and take steps to avoid transacting unregistered securities .
• It will be necessary to establish or improve internal compliance policies and procedures, particularly regarding the custodian function.
• Companies should establish an ongoing dialogue with regulators, including the SEC’s FinHub and the OCC’s Office of Innovation, to discuss the evolution of digital asset services/offerings prior to launch.
• Companies should evaluate their product and service offerings to determine whether additional licensing and registrations are required, including with FINRA/SEC, NFA/CFTC and NY DFS.
• Compliance should be continuously integrated into the digital payments strategy to facilitate advance assessment of regulatory requirements and testing of associated controls.
• Existing risk appetite and risk management frameworks for new technologies and products (e.g. cryptocurrencies) will need to be continually re-evaluated.

Produce useful and relevant information on digital assets for board reporting.

Regulators expect boards of directors to set clear, aligned and consistent direction regarding a company’s strategy and risk appetite based on sufficient information in terms of scope, detail and analysis to enable sound decision making and consider potential risks.

Given the complexity of the pace of development of digital assets and cryptocurrencies, it is important to:

• Define a digital asset strategy that includes clear and understandable actions, including board reporting
• Provide the board of directors with timely and nuanced information on product and market developments, including the identification and assessment of current and emerging risks (developments can range from cyber threats to products/services to talent management)
• Maintain current and relevant training opportunities for board members and staff.

Ten key regulatory challenges of 2022

The year 2022 will bring heightened levels of risk and regulatory oversight and enforcement. Regulatory “perimeters” continue to expand and regulatory expectations are rapidly increasing. All financial services firms should expect high levels of oversight and control activity across ten key challenge areas. Read the full report to find out more.

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