Despite being heavily-regulated in the US, banks face the steepest challenges to providing basic services when it comes to digital assets. Extensive compliance requirements protect consumers and traditional consumer assets, but make it prohibitive for banks to provide the same services for digital assets. This pushes consumers towards unregulated nonbank businesses, many of which have lost consumer assets. Regulators should support compliant banks with clear guidance on how they can provide these important services.
Many digital assets are designed to minimize reliance on trusted third parties, but that cannot always be avoided. Where third parties are necessary, the American Bankers Association (ABA) suggests that the “risks posed by digital assets can be most effectively managed by regulating nonbank cryptocurrency companies while allowing banks to engage more fully in digital asset activities.” Thus far, the Office of the Comptroller of the Currency (OCC) has taken a cautious approach and requires each bank to receive independent formal non-objection to any proposed digital asset activity. This discourages bank investment and participation in an industry that needs their expertise, and delays stable and long-term solutions. To protect consumers, regulators should collaborate with banks and provide clear guidance to the industry when particular activities, compliance protocols, or third party products are approved.
The Securities and Exchange Commission (SEC) recently introduced proposed amendments to the custody rule of the Investment Advisers Act of 1940 (SEC Proposal). This reflects the SEC’s recognition of the risks associated with custody-based solutions, including its concern that mere access to certain digital assets can provide “authority to change beneficial ownership of those assets.” The SEC Proposal takes a step in the right direction by requiring that registered investment advisors (RIAs) only use qualified custodians (rather than unregulated businesses) in connection with custody of client assets. However, this does not apply to otherwise unregulated nonbank companies. By expanding the current custody rule applicable to RIAs to include all client assets, the SEC Proposal might be focused more on symptoms rather than underlying issues, and will further inhibit banks and other RIAs from stepping in to protect consumer assets. Hopefully, the SEC Proposal enhances further discussion regarding the safeguarding of client assets, and leads to more constructive collaboration with banks and other RIAs to identify new solutions (including non-custody solutions) that ultimately protect consumers and the regulated institutions serving their needs.