U.S. broker-dealer activity involving digital assets could implicate various FINRA rules in addition to federal and state securities laws and SEC rules. As most readers likely know by now, whether this activity is of interest to or subject to the jurisdiction of U.S. securities regulators (both federal and state) largely depends on whether the digital asset is a security. The security status of particular assets often is the subject of great debate and confusion, as we have seen play out in numerous SEC settlements and various litigation over the past several years.
FINRA is the “self-regulatory organization” or “SRO” that essentially serves as the front-line regulator of U.S. broker-dealers. For the third July in a row, FINRA has asked its broker-dealer members to notify the SRO if they engage in digital asset activities. FINRA considers a “digital asset” to be “cryptocurrencies and other virtual coins and tokens (including virtual coins and tokens offered in an ICO or pre-ICO), and any other asset that consists of, or is represented by, records in a blockchain or distributed ledger (including any securities, commodities, software, contracts, accounts, rights, intangible property, personal property, real estate or other assets that are ‘tokenized,’ ‘virtualized’ or otherwise represented by records in a blockchain or distributed ledger).”
FINRA members (and U.S. broker-dealers generally) are not explicitly prohibited from engaging in non-securities activity. However, each FINRA member’s activities are generally limited to those that FINRA has specifically approved for the particular firm. The request to notify FINRA of digital asset activity partially serves as a way for FINRA to maintain line-of-sight for this new activity in which its members might engage, especially if that activity is beyond the securities realm. But the information gathered by FINRA through these voluntary member notices may also play a role in FINRA’s process for granting approvals for its members’ activity. In particular, FINRA members must seek the SRO’s approval for any “material change in business operations.” Depending on the specific details (e.g., the nature of the product or service, frequency, scope, amount of revenue generated, etc.), a member’s digital asset activity could trigger this approval requirement.
FINRA has provided this non-exclusive list of activities that are of interest to the SRO if undertaken (or planned) by a member, its associated persons, or its affiliates:
- Purchases, sales or executions of transactions in digital assets;
- Purchases, sales or executions of transactions in a pooled fund investing in digital assets;
- Creation of, management of, or provision of advisory services for, a pooled fund related to digital assets;
- Purchases, sales or executions of transactions in derivatives (e.g., futures, options) tied to digital assets;
- Participation in an initial or secondary offering of digital assets (e.g., ICO, pre-ICO);
- Creation or management of a platform for the secondary trading of digital assets;
- Custody or similar arrangement of digital assets;
- Acceptance of cryptocurrencies (e.g., bitcoin) from customers;
- Mining of cryptocurrencies;
- Recommendation, solicitation, or acceptance of orders in cryptocurrencies and other virtual coins and tokens;
- Displaying indications of interest or quotations in cryptocurrencies and other virtual coins and tokens;
- Providing or facilitating clearance and settlement services for cryptocurrencies and other virtual coins and tokens; or
- Recording cryptocurrencies and other virtual coins and tokens using distributed ledger technology or any other use of blockchain technology.
We will continue to monitor any related updates from FINRA, including potential digital asset guidance for existing or future members.