FinCEN proposes new regulations on convertible virtual currencies and digital asset transactions

The Financial Crimes Enforcement Network (FinCEN), a bureau within the U.S. Treasury Department, has proposed a new rule to bring convertible virtual currencies (CVC) and legal tender digital asset transactions (LTDA) within the existing anti-money laundering (AML) and “know your customer” (KYC) regulatory framework under the Bank Secrecy Act (BSA).

Specifically, the proposed rule would add a determination that CVCs and LTDAs constitute monetary instruments for the purposes of 31 U.S.C. 5313, which establishes the reporting requirements under the BSA, and impose record keeping and reporting requirements for transactions involving CVCs and LTDAs that parallel those already in existence for cash transactions.

The proposed rule, if adopted, would require financial institutions and fintech companies acting as money service businesses (MSB) facilitating transactions involving CVCs and digital assets to report transactions where the value of the CVC or LTDA exceeds $10,000. Financial institutions and MSBs will also be required to keep records of transactions, including the identity of the customer and any other parties to the transaction if parties involved use an unhosted or otherwise covered wallet for transactions greater than $3,000.

For such transactions, the financial institution or MSB will be required to collect the following categories of information and report to FinCEN within 15 days of the transaction:

  1. The name and address of the financial institution’s customer;
  2. The type of CVC or LTDA used in the transaction;
  3. The amount of CVC or LTDA in the transaction;
  4. The time of the transaction;
  5. The assessed value of the transaction, in U.S. Dollars, based on the prevailing exchange rate at the time of the transaction;
  6. Any payment instructions received from the financial institution’s customer;
  7. The name and physical address of each counterparty to the transaction of the financial institution’s customer;
  8. Other counterparty information that the Secretary may prescribe as mandatory on the reporting form for transactions subject to reporting pursuant to § 1010.316(b);
  9. Any other information that uniquely identifies the transaction, the accounts, and, to the extent reasonably available, the parties involved; and
  10. Any form relating to the transaction that is completed or signed by the financial institution’s customer.

The hosted versus unhosted wallet distinction is significant because financial institutions and MSBs are already subject to AML and KYC regulations for transactions involving a hosted wallet. A hosted wallet is one in which the financial institution or MSB serves as the custodian of the CVC or LTDA, and transactions are executed on the blockchain by the financial institution or MSB on behalf of a customer using a private key controlled by the company. In contrast, an unhosted wallet is one in which the individual does not utilize the custodial services of a financial institution or MSB and opts to control the private key by themselves.

Because an individual conducting transactions in an unhosted wallet on their own behalf is not considered a money transmitter and therefore not subject to AML and KYC regulations and reporting requirements, transactions in unhosted wallets pose a visibility issue for FinCEN. The proposed rule, if implemented, would allow FinCEN to identify the individual associated with an unhosted wallet and facilitate investigations into transactions associated with illicit activity. It would also put the onus on the financial institution and MSBs to ensure that the owner of the unhosted wallet is not associated with any nation-states, individuals, or organizations that have been sanctioned by the Office of Foreign Assets Control (OFAC) for involvement in terrorist activities, drug trafficking, or weapons trafficking.

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