Securities and Exchange Commission Chairman Gary Gensler on Wednesday proposed major changes to federal rules that would expand custody rules to include assets such as crypto and require companies to obtain or maintain registration to hold these client assets.
The proposed amendments to the federal custody rules would “broaden the scope” to include any client assets held in the custody of an investment adviser. Current federal regulations include only assets such as funds or securities and require investment advisers such as Fidelity or Merrill Lynchkeep those assets in a federal or state bank, with some very specific exceptions.
The SEC would be the most obvious attempt to rein in even regulated crypto exchanges that have significant institutional custodial programs that serve wealthy individuals and entities that hold investor assets, such as hedge funds or pension investment managers.
The move poses a new threat to crypto exchange custody programs as other federal regulators actively discourage custodians, such as banks, from keeping customers’ crypto assets. The amendments also come as the SEC actively accelerates enforcement efforts.
While the amendment does not specify crypto companies, Gensler said in a separate statement that “while some crypto trading and lending platforms may claim to hold investors’ crypto, that does not mean they are qualified custodians.”
Under the new rules, in order to hold any client assets – including but not limited to crypto – an institution must be chartered, or qualify as a registered broker-dealer, futures commission merchant, or be a certain type of trust or foreign financial institution. institution.
SEC officials said the proposal would not change the requirements for a qualified trustee and that nothing would prevent public trust companies, including Coinbase or Gemini, from serving as skilled guardians.
Officials emphasized that the proposed amendments do not decide which cryptocurrencies the SEC considers to be securities.
The amended rule also requires a written agreement between custodians and consultants, expands requirements for “unexpected examination” and strengthens record-keeping rules.
The SEC previously sought public feedback on whether crypto-friendly public funds like Wyoming’s are “qualified custodians.”
“Make no mistake: today’s rule, the 2009 rule, applies to a significant number of crypto-assets,” Gensler said in a statement. According to the release, “most crypto-assets are likely to be funds or crypto-asset securities covered by the current rule.” Also, while some crypto trading and lending platforms may claim to hold investors’ crypto, this does not mean they are qualified custodians.”
But Gensler’s proposal appeared to undermine comments from SEC officials who insisted the moves were designed with “all assets” in mind. The SEC chairman mentioned several high-profile crypto bankruptcies in recent months, including Celsius, Voyager and FTX.
“When these platforms fail — something we’ve seen a number of times recently — the investors’ assets often become the property of the failed company, leaving the investors in line in bankruptcy court,” Gensler said.
The SEC’s proposed changes are also intended to “ensure that client assets are properly segregated and held in accounts designed to protect assets in the event of a qualified custodian’s bankruptcy or other insolvency,” according to a filing released by the agency on Wednesday.
Coinbase already has a similar mechanism. In its most recent earnings report, the exchange indicated that it was holding customer crypto assets “safe from bankruptcy” from hypothetical general creditors, but noted that the “newness” of the crypto assets meant it was uncertain how the courts would view them.
The SEC has already started targeting other profitable sources of income for crypto institutions, such as Coinbase, which is the only publicly traded pure crypto exchange in the US. Last week, the SEC announced a settlement with crypto exchange Kraken over its bidding program, alleging that it constituted an unregistered offering and sale of securities.
At the time, Coinbase CEO Brian Armstrong said the potential move against the rate would be a “terrible path” for consumers.
For the three months ended September 30, 2022, Coinbase reported $19.8 million in institutional transaction revenue and $14.5 million in storage fee revenue. Together, this institutional revenue accounted for about 5.8% of Coinbase’s $590.3 million in revenue over the same time period. But this percentage does not include the income from blockchain rewards or the interest income from institutional clients of custody.
For example, Grayscale Bitcoin Trust (GBTC) holds billions of dollars worth of bitcoins with Coinbase Custody, holding approximately 3.4% of the world’s bitcoins as of May 2022. Under the proposed amendments, GBTC’s relationship with Coinbase could be in jeopardy.
A person familiar with the matter did not expect the relationship to be adversely affected, noting Coinbase Custody’s qualified custodian status as a New York state statutory trust and noting that investment advisers could even switch from directly holding bitcoins to owning GBTC shares as a result of the proposed amendments.
Coinbase representatives did not immediately respond to a request for comment.
— CNBC’s Kate Rooney contributed to this report.