What Texas DoB Memo 1037 Could Mean For Crypto, Beyond Just Stablecoins and Their Issuers

My perspective on the update to Texas Department of Banking’s Supervisory Memorandum 1037

8 min readJan 25, 2019

Sometimes, you just need to grab the paperwork by the horns

The biggest news of 2019 for crypto occurred on January 2nd, I think, and that it has not received the attention it deserves in regard to the impact it could have on cryptocurrency service providers, as well as investors and users of the new finance technology.

I’m talking about the release of an update which Charles Cooper of the Texas Department of Banking wrote for “Supervisory Memorandum 1037.”

The Memo

It was originally published in 2014, as the “first official position” offered by a US state regarding how their money transmitter laws apply to virtual currencies, like Bitcoin. Then, it was lauded by some in the crypto community as a win, since it explicitly states transactions which only involve cryptocurrency, and no sovereign currency, are not subject to money transmitter laws.

The 2019 update contains guidance concerning “centralized” virtual currency, with specific mention of one “subclassification,” stablecoins. It explains why such currencies may be found by the state’s “licensing analysis” to meet the statute for what “Money” means in “Money Transmission,” which could mean that some crypto companies could be forced to get Texas money transmitter licenses, even if they facilitate no business with sovereign currencies like USD.

But that isn’t news. In 2014, while discussing the memorandum, Daniel Woods, an assistant general counsel for the Texas DoB, told the Texas Tribune, “If [crypto exchanges] do business with Texas consumers, we can force them to get a Texas license.”

Texas: A State of Action(s)

Since 2014, the State of Texas, along with the Texas Finance Commission, Texas Securities Board, and federal regulators such as the U.S. Securities and Exchange Commission (SEC) and the U.S. Commodity and Futures Trading Commission (CFTC), have issued emergency orders (e.g. USI-Tech) and cease-and-desist orders against companies they say are offering illegal securities offerings or committing fraud using cryptocurrency (e.g. Arisebank), including ones which are based abroad (e.g. Bitconnect).

They have also issued enforcement orders related to Money Services Businesses, including:

Uphold and Bitreserve, who they found as guilty of “conducting money transmission in Texas” without a license, because their crypto exchange was “receiv(ing) money in exchange for the promise to make the money available at a later time.”
Coin Cafe, a New York-based crypto exchange, which was found to have “been conducting an unlicensed money transmission business in Texas” and were fined $10,000.
and Escrow Hill, who Texas was able to prove had been offering their services to its residents, because they “only require a customer to be 18 years old.”

Because Texas has given this explicit guidance in the past, and they have been active in enforcing their jurisdiction over “virtual currency” use concerning their residents, I assume their laws and any new guidance are going to be on any serious “crypto” or Internet-based financial company’s radar. Some, such as Coinbase and payments company PayPal, have already successfully obtained money transmitter licenses in the state.

Response to the Memo

Given how many enforcement actions Texas has already taken against crypto companies, and the amount of crypto companies which are handling transactions which involved “sovereign backed stablecoins,” I have been surprised at how little conversation there has been in crypto communities and in the space’s own media, since the memo’s update.

For context, here is a selection of what has been published regarding memo 1037, which the Texas Department of Banking addressed to “All Virtual Currency Companies Operating or Desiring to Operate in Texas”:

Texas regulators suggest “sovereign-backed stablecoins” may fall under money transmission laws — The Block
Texas Financial Watchdog May Recognize Stablecoins as Money for Licensing Purposes — CoinTelegraph
Regulating Stablecoins: Certain Stablecoins are Now Subject to the Texas Money Services Act — Lexology
Stablecoin Issuers May Need Licenses in Texas, Unlike Most Crypto Startups — CoinDesk
Regulating Stablecoins: Certain Stablecoins are Now Subject to the Texas Money Services Act — The National Law Review

Obviously, that last example is an outlier; it was written by a law outlet, not crypto. But it, too, focused on what the memo said about stablecoins. In my reading of the memo, and research afterwards, I found some subjects which were overlooked by these publications, and others I reviewed.

What Wasn’t Said About The “New” Memo 1037

The questions I still have about the memo which were not answered by any of these publications mostly had to do with the other “subclassifications” of “centralized virtual currencies,” out of which the author of the memo for some reason chose to highlight stablecoins:

Centralized virtual currencies can be further divided
into subclassifications that in some cases, become too complex to apply a universal policy.

Possibly, stablecoins were mentioned because some of these cryptocurrencies ($USDT, $USDC, $GUSD, $bitUSD) could be found to have a redemption right, because:

A licensing analysis will turn on whether the stablecoin provides the holder with a redemption right for sovereign currency thus creating a claim that can be converted into money or monetary value. This is true regardless whether the redemption right is expressly granted or implied by the issuer.

because of their simple function, they provide the easiest anecdote for what the relevant section of the memo was trying to answer: Which centralized virtual currencies could be found by our “licensing analysis” to constitute a claim for sovereign currency at a later date, and so be treated as sovereign currency itself?

Nowhere in the memo does it imply that stablecoins are the only “subclass” of virtual currency which the DoB could find as subject to the Texas Money Services Act. Instead, it says, broadly: “A virtual currency business that conducts money transmission must comply with all applicable licensing provisions of Finance Code Chapter 151 and of Title 7, Texas Administrative Code, Chapter 33.”

If transactions with sovereign-backed stablecoins meet the definition of “conducting money transmission,” that does not exclude any other subclass of virtual currency from having the same distinction. The memo doesn’t mention any other specific subclass, either…so, perhaps “stablecoin” is the only one they plan on considering.

Also, and remember: I am not a lawyer, but it seems obvious to me that, if and when a stablecoin is deemed as “Money” by the Texas Department of Banking, that it wouldn’t only be the stablecoin’s issuer which would be “transmitting money.” The headline from CoinDesk’s article above would imply that, but…

Exchanges which hold balances of sovereign-backed stablecoins,for instance, depending on how their storage is handled, I assume could also be deemed as “money transmitters” in the situation of a certain stablecoin being deemed “money.”

The same goes for escrow/remittance services or payment processors which accept stablecoins, and companies who sell products (or investments) for stablecoins. These companies could be required to register as money transmitters with Texas, even if they are already registered with federal regulators such as FinCEN, and it could be costly:

“Money Transmitter licenses often require surety bonds, financial statements, and minimum net worth requirements. State processing times can be lengthy and operating without a license will result in high fines and/or an order to cease operations.” LicenseLogix

What Is At Stake

Whether you choose to, or are “forced to,” obtaining a money transmitter license in Texas costs a minimum of $10,000 in fees (see Title 7, Chapter 33:27). As explained in the 1037 memo, there is a special $500,000 net worth minimum that internet services companies must meet to perform money transmission in Texas. To prove your net worth, you must be ready to provide financial audits (per Title 7, Chapter 33:13), and you can’t include virtual currency holdings.

It is a great cost just to apply for a money transmitter license in Texas, and if accepted, the minimum required bond a company must give the State is $300,000. If your application is not accepted, for reasons such as one of your employees not passing a background check, you could subsequently be charged for the cost of the investigation.

This is the kind of “friction” in state-level money transmission that crypto proponents like Coin Center have warned about for the past several years (see “The Need for a Federal Alternative to State Money Transmission Licensing, January 2018”). That firm, though, and no other that I can find, has issued a response to the updated memo from Texas Department of Banking.

This, again, surprises me, since in my opinion the memo clearly indicates that the state plans on conducting analyses on individual stablecoins, which has clear implications for a large share of companies in the “crypto economy.” Plus, the state’s recent motions against international crypto companies suggest to me that if and when Texas has determined companies to be in breach of their financial laws, they take immediate action against them.

What I Would Do

If I were an investment firm with any interest in crypto companies, I would be asking those companies for their own analysis of this new guidance from Texas and how it could affect them, and also be seeking independent opinions from reputable professionals. It’s also possible, and maybe a good idea, to solicit specific guidance the Texas DoB directly.

For the companies who are conducting business with “sovereign backed stablecoins,” or other centralized virtual currencies which could be deemed as “money”; if that does happen, they would either need to block Texas residents moving forward, or apply for a Texas money transmitter license.

For some companies, this could be a serious (or even terminal) setback. And, for companies who refuse to comply in such a situation, continuing to offer money transmitter services to Texans, in the eyes of the state, then their business could end the same way as Arisebank — in receivership.

I remain interested in what other subclasses of virtual currencies the Texas DoB is considering, and to be honest, I am expecting to see similar press releases to the “Emergency motions” that have already come out of the state.

Even without any further developments, I know that Texas can be convincingly used as an example of state-level financial regulation being potentially too confusing, or too costly for crypto companies. Though, the people who would make such an argument should know, Texas is working in tandem with several other states on their MSB licensing processes (as part of the CSBS); oh, and also, some people should probably take note that:

“[T]here is no ‘knowledge’ requirement for criminal prosecution under the federal statute, making the failure to obtain a required state money transmitter license a strict-liability offense.” (Locke Lord)

Because there could be some companies which are currently under criminal liability in the state of Texas, by my reading of their DoB’s memo, I would like to see more discussion in the crypto community about what this memo means. I could be wrong. :)

-@KyleSGibson

Nothing published on this Medium page constitutes an offer or a solicitation of an offer to buy or sell a security, financial instrument, or other category of asset, or investment advice or recommendation of a security, financial instrument or other category of asset. These are my opinions, published with the goal of contributing a documented, critical perspective of cryptocurrency and the law. Reach out with any questions.**