Crumpets, Congress, Cannabis and Crypto: Top 10 Issues for Financial Services in 2019 – Part 2
Continuing froma previoiuspost, here is the second half of our “Top 10 List” of key issues U.S. financial institutions, non-banks providing financial services, and financial technology (fintech) entities should plan for and watch throughout 2019.
On July 31, 2018, after several years of discussion, the Office of the Comptroller of the Currency (OCC)announcedthat it is accepting applications for special purpose national bank charters for fintech companies. Long anticipated by the fintech industry and opposed by multiple state regulators, the OCC fintech charter could potentially alter the financial services landscape for nondepository financial institutions. For fintech companies serving customers in multiple states, the OCC fintech charter could reduce the administrative and compliance challenges posed by the existing patchwork of state licensing requirements. But it comes at a steep cost because fintech companies would have to meet the stricter, bank-like regulatory requirements associated with a bank charter.
As of November 19th, no company had officially submitted an application to the OCC, although several were in pre-application discussions. The hesitation from fintech companies to apply for the new charter may be based on the heightened regulatory requirements, as well as the pending lawsuits the OCC is facing from state regulators. When the OCC announced its interest in chartering fintech companies, lawsuits were brought by both the Conference of State Bank Supervisors (CSBS), the nationwide organization of financial regulators, and Maria Vullo, the Superintendent of the New York State Department of Financial Services.Both lawsuits were dismissedas speculative because, at the time, the OCC had not reached a final decision on issuing fintech charters. Once the OCC made its decision final, bothCSBSandSuperintendent Vullorenewed their lawsuits. Superintendent Vullo has called the OCC’s decision to permit fintech charters “lawless, ill-conceived, and destabilizing of financial markets.” In response, the OCC has said that it will vigorously defend its authority to grant national charters to qualified companies “engaged in the business of banking.”
On a related note, the CFPB also announced creation of the Office of Innovation through which “[t]he Bureau intends to fulfill its statutory mandate to promote competition, innovation, and consumer access within financial services.” To achieve this goal, the new CFPB Office of Innovation will take over the work previously done by CFPB’s Project Catalyst, and will focus on creating policies to facilitate innovation, engaging with entrepreneurs and regulators, and reviewing outdated or unnecessary regulations. CFPB announced on July 18, 2018, that Paul Watkins would lead the Office of Innovation. Watkins joined CFPB from the Arizona Attorney General’s Office, where he was instrumental in launching the Arizona state fintech regulatory sandbox, the first state regulatory sandbox in the nation. In addition, during the first week of December, 2018, the CFPB announced it wants to overhaul its policy on “no-action” letters and also create a regulatory sandbox to attract more companies seeking to test out new consumer offerings. This CFPB announcement was met with concern from both lawmakers and consumer advocates, so we expect that particular debate and conversation to continue into 2019, together with more activity on the OCC fintech charter and state regulatory sandbox front.
Cannabis banking will likely remain one of the hot topics in 2019, and it is possible there may finally be some movement at the federal level. One of marijuana’s sharpest critics, former Attorney General Jeff Sessions,resigned in November, which may open the door for less hardline officials to take the lead on federal marijuana policy. In January 2018, Sessionsannounced the rescission of the Cole Memoranda, a series of issuances from senior DOJ officials during the Obama era that recommended that U.S. Attorneys’ Offices focus prosecutorial priorities away from state-legal marijuana activity except where certain heightened risk factors were present. It is unclear if Sessions’ successor will re-issue the Cole Memoranda. President Trump recently announced that he is nominating William Barr—who served in the first Bush administration—to replace Sessions.According to industry experts, although he hasn’t made an recent comments on marijuana, Barr is expected to be somewhat more friendly to marijuana than his predecessor.
Regardless, marijuana banking continues to grow. According toFinCEN, as of March 31, 2018,a total of 411 banks and credit unions provided services to marijuana-related businesses, up from 365 a year ago. And although House Democrats declined to list cannabis normalization as a top Democratic priority during the 2018 campaign, Democratic control of the House increases the likelihood that leadership will try to advance either a limited bill providing a safe harbor for banks to serve marijuana businesses or a broader bill to remove marijuana from the list of controlled substances. Many believethe STATES Actcontinues to have the best chance of passage in the new Congress.
2018 saw a lot of activity in the cryptocurrency space, from wild swings in valuation, to a ramp up on initial coin offerings (ICO’s), to increased movement on the regulatory and enforcement front at both the state and federal level. 2019 will continue 2018 trends on all fronts, but with the added challenge that 2019 will start with cryptocurrency valuations approximately 65 – 70% lower than valuations at the end of 2017.
In the U.S., regulation is emerging from several sources and that trend will continue into 2019. The Securities and Exchange Commission (SEC) is concerned that the offering and sale of virtual currency (or “tokens”) is a sale of a security under the Securities Act of 1933, and that such offerings should comply with offering regulations, including providing appropriate disclosure to investors in order to prevent fraud. The chairman of the SEC has released statements on the rise of cryptocurrencies (seewww.sec.gov/news/testimony/testimony-virtual-currencies-oversight-role-us-securities-and-exchange-commissionandwww.sec.gov/news/public-statement/statement-clayton-2017-12-11) and the SEC has also published aninvestor bulletinon the topic. The SEC will continue to use its investigation and enforcement powers to prevent fraud; in a recent example,it charged a former Bitcoin-denominated platform and its operator with fraud.
While the SEC has been active in attempting to regulate ICOs as “securities,” it has been met with mixed results. On November 16, 2018, the SEC announced a settlement on charges againstAirfox and Paragon, two companies that sold digital tokens through ICOs. The SEC claimed that the companies failed to register their ICOs under federal securities laws. As part of the settlement, both companies agreed to return funds to investors, register their tokens as securities, and pay fines. On November 27, 2018, however the U.S. District Court for the Southern District of California inSEC v. Blockvest LLC et al., case number 3:18-cv-02287, denied the SEC’s Motion for Preliminary Injunction to enjoin Blockvest’s ICO on the SEC’s claim that Blockvest’s pre-ICO capital raising was a securities law violation. The court held the SEC had failed to make an initial showing that tokens sold by a company pre-ICO were “securities.” At the core of this decision was the Court’s finding that “plaintiffs and defendants provided starkly different facts as to what the investors relied on before they purchased the [test] tokens.”
The Commodity Futures Trading Commission (“CFTC”)views cryptocurrencies and derivative contracts based on them as commodities in certain circumstances,and the CFTC has brought enforcement actions as well. One such case was againstPatrick K. McDonell and his company, Coin Drop Marketsthat was alleged to have operated a deceptive and fraudulent virtual currency scheme and misappropriated investor funds. Defendants advertised their services through two websites and social media. Investors transferred virtual currency to the defendants paying for a membership or day trading opportunities, with promised profits of up to 300 percent per week. After receiving membership payments or virtual currency investments, the defendants deleted the social media accounts and websites and discontinued communication with customers. The defendants were ordered to pay over $1.1 million in penalties and restitution. The CFTC has also created a Customer Advisory (“Understanding the Risks of Virtual Currency Trading”) addressing the risks of investing in virtual currencies. Expect more activity in 2019 from the CFTC regarding cryptocurrencies and derivative contracts.
The U.S. Treasury Department’s inspector is involved in reviewing the Financial Crimes Enforcement Network’s (FinCEN’s) cryptocurrency practices as they relate to money laundering and terrorism financing risks. FinCEN’s Guidance FIN-2013-G001 can be viewedhere. On November 28, 2018, the U.S. Department of the Treasury’s Office of Foreign Assets Control (“OFAC”) for the first time published the digital currency addresses associated with specific individuals subject to sanctions. OFAC, the primary agency in charge of administering U.S. economic sanctions programs, has the authority to block property of persons involved in “malicious cyber-enabled activities” originating from outside of the United States and who constitute a threat to national security or the financial stability of the United States. As this issuance of sanctions marks the first time that a digital currency address has been designated as associated with an SDN, and therefore considered blocked property, OFAC hasissued guidanceregarding how to block such transactions. 2019 may see an uptick in FinCEN and OFAC expectations regarding blocking certain cryptocurrency transactions, particularly those involving ransomware attacks coupled with cryptocurrency ransomware payments where the attacks originate from a country or person subject to U.S. sanctions. In 2019, OFAC will continue to increase its interest in digital currencies and will most likely identify additional wallet addresses to be blocked.
State regulatory authorities are also taking a role in regulating virtual currencies. The Conference of State Bank Supervisors (CSBS) formed the CSBS Emerging Payments Task Force to examine the intersection between state supervision, state law and payments developments and to identify areas forconsistent regulatory approachesamong the states. In addition, the National Conference of Commissioners on Uniform State Laws has developed aUniform Regulation of Virtual-Currency Businesses Actto provide a statutory framework for the regulation of companies engaging in “virtual-currency business activity.” In spring of 2018, the North American Securities Administrators Association (NASAA) (an association of state and provincial securities regulators in the United States and Canada) launchedOperation Cryptosweepto put an end to cryptocurrency fraud. As of August 2018, that coordinated effort resulted in over 200 active investigations and approximately 40 enforcement actions. Such coordinated enforcement actions will most likely continue into 2019.
On November 19, 2018 the Supreme Court denied the petition of Bank of America to review the Ninth Circuit’s ruling inLusnak v. Bank of America.As previously noted, Supreme Court review of this case could have helped clarify some important unanswered questions regarding preemption of state laws by federal banking laws. Absent further clarification on these issues by federal courts (or federal regulators), federally-chartered financial institutions must continue to evaluate each state law for applicability or pre-emption on an all-too-murky case-by-case basis.
Payday lending regulation has been in the works at the CFPB in some form or fashion for several years—the Bureau released the first version of the proposed rule in June 2016and then, after extensive public input,issued a significantly more restrained second version in October 2017. However, the CFPB’s new leadershipannounced in October 2018that it would further reconsider this proposed rule and expects to release another iteration in January 2019. Importantly, the CFPB stated that it was “planning to propose revisiting only the ability-to-repay provisions and not the payments provisions” of the proposed rule. In other words, the CFPB may still implement proposals to limit unsuccessful withdrawal attempts from consumers’ checking and savings accounts by lenders (which can result in additional fees to borrowers and account closures), but refrain from requiring lenders to refuse loans to borrowers who cannot satisfactorily demonstrate their ability to repay the loans they seek.
As financial institutions and fintech companies look forward to the challenges and developments coming down the road in 2019, the DykemaFinancial Services Regulatory and ComplianceandFintech, Payments and Digital Commerceteams stand ready to help your entity navigate changing waters.
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