Regulations & Governance Frameworks

Nik Jacob

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VINPrimeCapital

5 min readJun 1, 2018

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Chronicle of regulatory actions and emerging governance frameworks by jurisdiction

Regulatory Framework

The definitions for cryptocurrency among regulatory entities is unclear. The Commodity Futures Trading Commission (“CFTC”) asserts that it’s a commodity (Release: PR7231–15,” CFTC, September 2015), The Internal Revenue Service (“IRS”) deems it property (Virtual Currency Guidance,” IRS, March 2014), the U.S. Securities and Exchange Commission, (SEC) leans towards securities, and FinCEN considers it money.

Regulations are still unclear across domiciles as to the legal and financial treatment of crypto-assets. In the recent G20 convention held in Buenos Aires, the G20 communique acknowledged the potential for blockchain based assets to improve financial inclusion and efficiency of the economy. Furthermore, it was expressed that regulator concerns remain for concern of investor protection, money laundering, tax evasion, and terrorism financing.

“Crypto-assets lack the key attributes of sovereign currencies. At some point they could have financial stability implications. We commit to implement the FATF [Financial Action Task Force] standards as they apply to crypto-assets.” The FSB chief and Bank of England governor Mark Carney, concluded in a letter sent to G20 finance ministers noting that cryptocurrencies ”do not pose risks to global financial stability at this time”, and regulator entities will update the community by July 2018.

Globally, sentiments for cryptocurrency regulation are varied. Countries like China and Mexico have banned cryptoassets, whereas other nations like US and Japan remain more neutral or open to their proliferation in the interest of not stifling innovation while regulation frameworks evolve.

In the following timeline below, notable developments by regulatory bodies include the (varied) classification of cryptocurrencies as well as the introduction of the Bitcoin Futures market by formaized financial institutions CBOE and CME.

Furthermore, the exhibit below explores the ICO regulation timeline, which is a subset of cryptocurrencies involving capital raises akin to an IPO (thus warranting a comparison to securities and investor protection). In broad strokes, regulatory actions appear to be targeted to eliminate bad actors rather than punish all participants in the undefined market. Similar to the map above, regulations vary by jurisdiction, with the most open regulations chartered by smaller nations that are able to act in a more agile manner with the interest of attracting investment.

Notable progress includes Switzerland’s framework for ICOs under anti-money laundering and securities regulations, expanding on payment, utility, and asset tokens. Gibraltar has also stated their position to introduce ICO regulation, with a focus on disclosure rules that require adequate, accurate and balanced information to anyone buying tokens. France has taken a stance to introduce a legal ICO framework in a bid to attract more blockchain talent.

Within the United States, virtual currencies maintain legal status, however, state regulations vary due to the Federalist nature of government. Certain jurisdictions are proactive in their cryptocurrency legislation — the State of Wyoming recently introduced bills to simplify the setup, transaction, and taxation of cryptocurrency entities.

House Bill (HB) №19 — The Wyoming Money Transmitter Act-virtual currency exemption.
HB №70 — Open blockchain tokens-exemptions (a.k.a. the “Utility Token” bill).
HB №101 — Electronic corporate records (a.k.a. “The Blockchain Records Bill”)
Senate File (SF) №111 — Property taxation-digital currencies (a.k.a. “The Cryptocurrency Property Tax Exemption Bill”).

Governance

In the absence of centralized guidance, self-governance frameworks have evolved to provide guardrails for builders. Coinbase issued a securities framework for ICO prospects to consider when launching a token, lending on the Howey test to determine whether the asset qualifies as a security (of which all three elements must be met):

Traditional Howey test:
1. An investment of money
2. in a common enterprise
3. with an expectation of profits predominantly from the efforts of others.

Smith & Crown, a prominent research cornerstone within the cryptocurrency community, issued a framework for self-regulation through a series of questions that ICO founders can explore to determine their legitimacy (not legality). The framework borrows heavily from a model that venture capitalists use to evaluate new business ideas, and addresses nuances for tokens. Smith & Crown suggests, at minimum, that the following be disclosed and detailed for prospective investors:

Team identities and background
Current technology and roadmap status
Corporate and organizational structure
Legal status of tokens and token holders
Sales terms
Purpose of token
Token distribution
Governance and intellectual property
Use of funds
Sale security and fund storage
Business Plan
Industry

Meanwhile, an angel community (Protocol Labs, Cooley, AngelList, and CoinList) collaborated to form a legal bridge for ICO investments in a document known as the “SAFT”, or Simple Agreement for Future Tokens, as a framework to develop an industry standard that protects the interests of network creators, investors, and users.

Thematically, regulatory bodies have acted in the interest of moderating bad actors while they evaluate the market to build appropriate frameworks that balance investor protection and anti-money laundering with flexibility for technological innovation. Many stakeholders, including a US government watchdog, share the opinion that cumbersome regulation can inhibit DLT innovation.

As an institution, the Fund believes regulation in the longer term is healthy for cryptocurrency markets due to clarity on permissible actions and perceived risk. Clear regulations (anticipated over the next 6–9 months) from various regulatory bodies will pave the path for greater institutional inflow of capital. Meanwhile, the early adopters including founders, media groups, online communities, funds, and intermediaries are uniquely positioned to navigate and influence the market as it evolves and reaches critical mass through periods of volatility.

References:

Regulations & Governance Frameworks

Regulatory Framework

Governance

Written by Nik Jacob