Overview

On January 30, 2014, the U.S. Department of the Treasury’s Financial Crimes Enforcement Network (FinCEN) issued two administrative letter rulings that clarify the application of FinCEN’s regulations to certain participants in the virtual currency ecosystem.  Together, these letter rulings clarify that neither the type of currency involved (real or virtual) nor the method by which the currency was obtained determines whether a transaction will be regulated as money transmission under federal law.  Rather, such a determination rests upon the type of activity undertaken and for whose benefit it was undertaken.  As a result, all participants in the virtual currency ecosystem (including companies, individual users and investors) should carefully evaluate the regulatory and compliance impact of these letters on their activities.

Background

The Bank Secrecy Act and corresponding regulations subject financial institutions and money services businesses (MSBs) to a wide range of anti-money laundering obligations.  Regulated MSBs include, among other entities, money transmitters.  On March 18, 2013, FinCEN clarified that certain actors undertaking specific virtual currency transactions are subject to the MSB regulations governing money transmission.[1] Although FinCEN’s March 2013 pronouncement clarified many issues, it also raised numerous questions.  Since that time, FinCEN had actively engaged virtual currency companies and advocacy groups in dialogue regarding the complexity of virtual currency regulation, but it had not issued any additional formal guidance.  FinCEN’s silence ended January 30, 2014 with the issuance of two letter rulings, titled Application of FinCEN’s Regulations to Virtual Currency Mining Operations [2] and Application of FinCEN’s Regulations to Virtual Currency Software Development and Certain Investment Activity.[3]

Letter Ruling Regarding Mining

FinCEN’s March 18, 2013 Guidance asserted that “[a] person that creates units of this convertible virtual currency and uses it to purchase real or virtual goods and services is a user of convertible virtual currency and not subject to regulation as a money transmitter.  By contrast, a person that creates units of convertible virtual currency and sells those units to another person for real currency or its equivalent is engaged in transmission to another location and is a money transmitter.”[4]  This statement concerned many observers because it might be read to suggest that individuals and entities mining bitcoin (or otherwise “creating” or “obtaining” virtual currency) could be regulated as money transmitters for any activity undertaken with the mined bitcoin other than purchases of goods and services.  FinCEN responded to these concerns on January 30, 2014 by explaining that a person or entity is not automatically an MSB if it mines bitcoin.  Rather, the determination rests on “what the person uses the convertible virtual currency for” and, importantly, “for whose benefit.”[5]  FinCEN therefore opined that, regardless of whether the miner is an individual or an entity and regardless of whether the miner uses the bitcoin to purchase goods or services, pay debts or make distributions to shareholders, the activity will not constitute money transmission so long as the activity is undertaken for the miner’s own purposes and not on behalf of another person or entity.[6]  Extending this principle, FinCEN further stated that a bitcoin miner who “converts” mined bitcoin into real currency will not be deemed a money transmitter “so long as the user is undertaking the transaction solely for the user’s own purposes and not as a business service performed for the benefit of another.”[7]

Letter Ruling Regarding Software Development and Certain Investment Activity

FinCEN’s second letter ruling also addressed concerns that the mere sale of virtual currency could result in regulation as a money transmitter.  FinCEN opined that a person or entity may purchase and sell convertible virtual currency for its own account and remain an unregulated user of virtual currency.[8]  This is true even though, technically, purchases and sales of convertible virtual currency require “paying and receiving the equivalent value in currency of legal tender to and from counterparties.”[9]  However, as in its ruling on mining activities, FinCEN was careful to note that this only remains true for so long as the person or entity undertakes the purchases and sales for such person’s or entity’s own benefit, and not for the benefit of others.  FinCEN also used the letter ruling as an opportunity to further clarify the reach of the MSB regulations in the virtual world.  Specifically, FinCEN explained that “[t]he production and distribution of software, in and of itself, does not constitute acceptance and transmission of value, even if the purpose of the software is to facilitate the sale of virtual currency.”[10] 

Implications for Participants in the Virtual Currency Ecosystem

Ultimately, then, FinCEN’s January 30, 2014 letter rulings reinforce the principles of the March 18, 2013 guidance and prior rulings on more traditional money transmission activities.  Specifically, FinCEN clarified that the mere fact that a transaction involves convertible virtual currency does not automatically render the participants subject to federal money transmission regulations.  Rather, the determination of whether any individual or entity is a money transmitter depends on what activity is undertaken and for whose benefit.  Participants in the virtual currency industry should therefore carefully examine their business model, the activities underlying that business model and each proposed change to that business model to confirm whether the model, activities or proposed change triggers federal regulation as a money transmitter. 

Taken together, the two rulings start, but do not finish, answering the question of whether what many industry participants call “direct sales” of virtual currency are regulated activities.  Part of the problem is FinCEN’s continued focus on the concept of “converting” the currency rather than “selling” it.  For example, while the rulings certainly imply that exchanging convertible virtual currency for legal tender or other convertible virtual currency on behalf of others likely constitutes money transmission, the rulings also appear to admit that some sale and purchase activity of convertible virtual currency may not—especially when the purchase or sale is for the benefit of the purchaser or seller.  The rulings, then, simply do not clarify whether FinCEN expects users who are otherwise unregulated to purchase and sell convertible virtual currency through a regulated exchange (thereby “converting” the virtual currency) or whether the users’ direct sales or purchases of the currency will be deemed unregulated activity (because they are not doing it on behalf of others).  As a result, individuals and entities contemplating direct sales of convertible virtual currency should carefully evaluate the applicability of federal regulations to those transactions.

Contact counsel for more information regarding FinCEN’s recent letter rulings.

[1] FinCEN, Guidance: Application of FinCEN’s Regulations to Persons Administering, Exchanging, or Using Virtual Currencies, FIN-2013-G001 (Mar. 18, 2013) (hereinafter “Virtual Currency Guidance”).
[2] FinCEN, Ruling: Application of FinCEN’s Regulations to Virtual Currency Mining Operations, FIN-2014-R001 (Jan. 30, 2014) (hereinafter “Mining Ruling”).
[3] FinCEN, Ruling: Application of FinCEN’s Regulations to Virtual Currency Software Development and Certain Investment Activity, FIN-2014-R002 (Jan. 30, 2014) (hereinafter “Investment Ruling”).
[4] Virtual Currency Guidance, supra note 1, at 5.
[5] Mining Ruling, supra note 2, at 2.
[6] Id. at 3.
[7] Id.
[8] Investment Ruling, supra note 3, at 4.
[9] Id.
[10] Id. at 2.

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