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NYDFS calls its virtual currency framework the “gold standard”
On May 25, NYDFS Superintendent Adrienne Harris testified before the New York assembly to address the regulation of virtual currency in the state. Harris highlighted the value and “gold standard” set by NYDFS’s virtual currency regulatory framework. She detailed how novel risks in that landscape were met with subsequential growth of the virtual currency unit since her arrival, including the addition of 50 professionals and a range of seasoned experts to streamline enforcement investigations.
In her testimony, Harris also voiced how the framework responsibly supports innovation for entities engaging primarily in virtual currency activities, leveraging their licensing (BitLicense) and chartering (the limited purpose trust company charter) regimes, whereas other states license virtual currency entities only as money transmitters. Adding on, she specified how NYDFS’s customized approach continues after approval, specifically, “NYDFS creates a detailed supervisory agreement that is tailored to the specific risks presented by the company’s business model. Licensed and chartered entities also are subject to ongoing supervision and are regularly examined for compliance with broadly applicable virtual currency regulations and other rules, as well as with their supervisory agreements.” The development of these tools, among other safeguards, is demonstrative of NYDFS’ focus on addressing the inherently high-risk nature of virtual currency business activity with respect to illicit transactions, she noted.
Harris further clarified that secure, customized regulatory requirements, as outlined in the framework, coupled with transparency, ushers in more business for the state, especially in the case of crypto startups. Further, other regulators, jurisdictions, and economic development agencies are seeking to replicate the framework, Harris commented, as consumer protection is not only achieved as outlined in the law, but by regulators that are able to move at a faster pace than the former.
Minnesota enacts small-dollar consumer lending and money transmitter amendments; Georgia and Nevada also enact money transmission provisions
On May 24, the Minnesota governor signed SF 2744 to amend several state statutes relating to financial institutions, including provisions concerning small-dollar, short-term consumer lending, payday lending, and money transmitter requirements. Changes to the statutes governing consumer small loans and consumer short-term loans amend the definition of “annual percentage rate” (APR) to include “all interest, finance charges, and fees,” as well as the definition of a “consumer short-term loan” to mean a loan with a principal amount or an advance on a credit limit of $1,300 (previously $1,000). The amendments outline certain prohibited actions and also cap the permissible APR on a loan at no more than 50 percent and stipulate that lenders are not permitted to add other charges or payments in connection with these loans. The changes apply to loans originated on or after January 1, 2024. The amendments also make several modifications to provisions relating to payday loans with APRs exceeding 36 percent, including requirements for conducting an ability to repay analysis. These provisions are effective January 1, 2024.
Several new provisions relating to the regulation and licensing of money transmitters are also outlined within the amendments. New definitions and exemptions are provided, as well implementation instructions that provide the state commissioner authority to “enter into agreements or relationships with other government officials or federal and state regulatory agencies and regulatory associations in order to (i) improve efficiencies and reduce regulatory burden by standardizing methods or procedures, and (ii) share resources, records, or related information obtained under this chapter.” The commissioner may also accept licensing, examination, or investigation reports, as well as audit reports, made by other state or federal government agencies. To efficiently minimize regulatory burden, the commissioner is authorized to participate in multistate supervisory processes coordinated through the Conference of State Bank Supervisors (CSBS), the Money Transmitter Regulators Association, and others, for all licensees that hold licenses in the state of Minnesota and other states. Additionally, the commissioner has enforcement, examination, and supervision authority, may adopt implementing regulations, and may recover costs and fees associated with applications, examinations, investigations, and other related actions. The commissioner may also participate in joint examinations or investigations with other states.
With respect to the licensing provisions, the amendments state that a “person is prohibited from engaging in the business of money transmission, or advertising, soliciting, or representing that the person provides money transmission, unless the person is licensed under this chapter” or is a licensee’s authorized delegate or exempt. Licenses are not transferable or assignable. The commissioner may establish relationships or contracts with the Nationwide Multi-State Licensing System and Registry and participate in nationwide protocols for licensing cooperation and coordination among state regulators if the protocols are consistent with the outlined provisions. The amendments also outline numerous licensing application and renewal procedures including net worth and surety bond, as well as permissible investment requirements.
The same day, the Nevada governor signed AB 21 to revise certain provisions relating to the licensing and regulation of money transmitters in the state. The amendments generally revise and repeal various statutory provisions to establish a process for governing persons engaged in the business of money transmission that is modeled after the Model Money Transmission Modernization Act approved by the CSBS. Like Minnesota, the commissioner may participate in multistate supervisory processes and information sharing with other state and federal regulators. The commissioner also has expanded examination and enforcement authority over licensees. The Act is effective July 1.
Additionally, the Georgia governor signed HB 55 earlier in May to amend provisions relating to the licensing of money transmitters (and to merge provisions related to licensing of sellers of payment instruments). The Act addresses licensee requirements and prohibited activities, outlines exemptions, and provides that applications pending as of July 1, “for a seller of payment instruments license shall be deemed to be an application for a money transmitter license as of that date.” Notably, should a license be suspended, revoked, surrendered, or expired, the licensee must, “within five business days, provide documentation to the department demonstrating that the licensee has notified all applicable authorized agents whose names are on record with the department of the suspension, revocation, surrender, or expiration of the license.” The Act is also effective July 1.
Fintech fined over interest charges billed as tips and donations
A California-based fintech company recently entered separate consent orders with California, Connecticut, and the District of Columbia to resolve allegations claiming it disguised interest charges as tips and donations connected to loans offered through its platform. The company agreed to (i) pay a $100,000 fine in Connecticut and reimburse Connecticut borrowers for all loan-related tips, donations, and fees paid; (ii) pay a $30,000 fine in the District of Columbia, including restitution; and (iii) pay a $50,000 fine in California, plus refunds of all donations received from borrowers in the state. The company did not admit to any violations of law or wrongdoing.
The Connecticut banking commissioner’s consent order found that the company engaged in deceptive practices, acted as a consumer collection agency, and offered, solicited, and brokered small loans for prospective borrowers without the required licensing. The company agreed that it would cease operations in the state until it changed its business model and practices and was properly licensed. Going forward, the company agreed to allow consumers to pay tips only after fully repaying their loans. The consent order follows a temporary cease and desist order issued in 2022.
A consent judgment and order reached with the D.C. attorney general claimed the company engaged in deceptive practices by misrepresenting the cost of its loans and by not clearly disclosing the true nature of the tips and donations. The AG maintained that the average APR of these loans violated D.C.’s usury cap. The company agreed to ensure that lenders accessing the platform are unable to see whether a consumer is offering a tip (or the amount of tip) and must take measures to make sure that withholding a tip or donation will not affect loan approval or loan terms. Among other actions, the company is also required to disclose how much lenders can expect to earn through the platform.
In the California consent order, the Department of Financial Protection and Innovation (DFPI) claimed that the majority of consumers paid both a tip and a donation. A pop-up message encouraged borrowers to offer the maximum tip in order to have their loan funded, DFPI said, alleging the pop-up feature could not be disabled without using an unadvertised, buried setting. These tips and/or donations were not included in the formal loan agreement generated in the platform, nor were borrowers able to view the loan agreement before consummation. According to DFPI, this amounted to brokering extensions of credit without a license. Additionally, the interest being charged (after including the tips and donations) exceeded the maximum interest rate permissible under the California Financing Law, DFPI said, adding that by disclosing that the loans had a 0 percent APR with no finance charge, they failed to comply with TILA.
IOSCO urges global harmonization of crypto oversight
Earlier this month, the International Organization of Securities Commissions (IOSCO) released draft policy recommendations to support greater regulatory and oversight consistency within the crypto and digital assets markets. According to the global securities watchdog, regulators must strive for consistency in their oversight of crypto-asset activities given the cross-border nature of these markets and the varying approaches taken by individual jurisdictions. Seeking to optimize consistency in the way crypto-asset and securities markets are regulated, the IOSCO advised regulators to enhance cooperation efforts and attempt “to achieve regulatory outcomes for investor protection and market integrity that are the same as, or consistent with, those required in traditional financial markets in order to facilitate a level-playing field between crypto-assets and traditional financial markets and help reduce the risk of regulatory arbitrage.” Encouraging regulators to engage in rulemaking and information sharing, the IOSCO presented a comprehensive strategy for harmonizing the oversight of crypto companies, including standards on conflicts of interest and governance, fraud and market abuse, cross-border cooperation, custody of client monies and assets, and operational and technological risks. The IOSCO also suggested measures for reducing money laundering risks, explaining that crypto assets may be more appealing to criminals who want to avoid traditional financial system oversight. The IOSCO noted that its goal is to finalize its policy recommendations in early Q4 2023. Comments will be received through July 31.
Crypto company settles NY AG’s hidden-fee claims
On May 18, the New York attorney general announced a settlement with a Brooklyn-based cryptocurrency company to resolve claims that it charged investors “exorbitant and undisclosed fees” to store cryptocurrency in an account that was advertised as being free on its website. The fees charged to investors to use its wallet storage were allegedly so high that they completely cleaned out investors’ accounts, the AG said. The company agreed to the AG’s findings that it regularly charged and increased fees without properly notifying investors. According to the AG’s investigation, the company changed the wallet storage fee structure four times without clearly disclosing the fee increase, which led to some investors being charged fees equal to 96 percent of the value of their account holdings. In total, the company took approximately $4.25 million from investors. The AG maintained that the company also failed to register as a commodity broker dealer in the state for a period of time, and that while it was eventually granted a virtual currency license pursuant to 23 NYCRR Part 200, it failed to file a registration statement. Under the terms of the assurance of discontinuance, the company is required to pay $508,910 in restitution to the state and provide full restitution to all investors who were misled. The company is also required to provide monthly refund status updates to the AG, limit the amount of fees charged for using its wallet service to 0.002 percent per cryptocurrency per month for at least five years, and ensure that it adequately discloses all fees to investors.
New York proposes “landmark” crypto legislation
On May 5, New York Attorney General Letitia James announced proposed legislation to increase oversight of the cryptocurrency industry. Calling the “landmark legislation” the “strongest and most comprehensive set of regulations on cryptocurrency in the nation,” James said the bill would increase transparency, eliminate conflicts of interest, and impose “commonsense” investor protection measures consistent with other financial services regulations. Among other things, the bill would strengthen NYDFS’ regulatory authority over digital assets and codify the Department’s ability to license digital asset brokers, marketplaces, investment advisors, and issuers prior to engaging in business in the state. NYDFS would also be given jurisdiction to enforce violations of law within the crypto industry, including by issuing subpoenas; imposing civil penalties of $10,000 per violation per individual or $100,000 per violation per firm; collecting restitution, damages, and penalties; and shutting down businesses found to be engaging in fraud and illegal activities.
The bill would also strengthen investor protections by enacting and codifying “know-your-customer” protections, “[b]anning the use of the term ‘stablecoin’ to describe or market digital assets unless they are backed 1:1 with U.S. currency or high-quality liquid assets as defined in federal regulations,” and requiring crypto platforms to reimburse victims of fraud, similar to a bank’s responsibility under the EFTA. Other provisions would, among other things, (i) implement protections to stop conflicts of interest, including by preventing common ownership of crypto issuers, marketplaces, brokers, and investment advisers and preventing such persons from engaging in more than one of those activities; and (ii) require public reporting of financial statements to increase transparency and mandate that companies be required to undergo independent audits and publish audited financial statements, among other things.
The proposed bill will be submitted by the attorney general’s office to the New York Senate and Assembly for their consideration during the 2023 legislative session.
SEC orders crypto ATM operator to pay $3.9 million for selling unregistered tokens
On April 28, the SEC settled with a cryptocurrency ATM operator for allegedly selling unregistered tokens in order to raise money to expand its bitcoin ATM network. Described as a “token sale,” the SEC claimed the respondents in total raised crypto assets during an initial coin offering valued at roughly $3.65 million. According to the SEC, the company offered and sold its token as investment contracts, which qualified it as a security since investors would have reasonably expected to obtain future profits from the token’s rise in value based upon the respondents’ efforts. By offering and selling securities without having on file a registration statement with the SEC or qualifying for an exemption, the respondents violated Sections 5(a) and 5(c) of the Securities Act, the SEC said. Additionally, one of the respondents and its CEO were also accused of violating Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 by making materially false and misleading statements and engaging in other fraudulent conduct connected to the offer and sale of the token. The respondents neither admitted nor denied the SEC’s findings, but agreed to pay a collective $3.92 million civil penalty and said they would cease and desist from committing violations of the Securities Act and the Securities Exchange Act. One of the individual respondents also received a three-year officer and director ban.
Federal agencies reaffirm commitment to confront AI-based discrimination
On April 25, the CFPB, DOJ, FTC, and Equal Employment Opportunity Commission released a joint statement reaffirming their commitment to protect the public from bias in automated systems and artificial intelligence (AI). “America’s commitment to the core principles of fairness, equality, and justice are deeply embedded in the federal laws that our agencies enforce to protect civil rights, fair competition, consumer protection, and equal opportunity,” the agencies said, emphasizing that existing authorities apply equally to the use of new technologies and responsible innovation as they do to any other conduct. The agencies have previously expressed concerns about potentially harmful AI applications, including black box algorithms, algorithmic marketing and advertising, abusive AI technology usage, digital redlining, and repeat offenders’ use of AI, which may contribute to unlawful discrimination, biases, and violate consumers’ rights.
“We already see how AI tools can turbocharge fraud and automate discrimination, and we won’t hesitate to use the full scope of our legal authorities to protect Americans from these threats,” FTC Chair Lina M. Khan said. “Technological advances can deliver critical innovation—but claims of innovation must not be cover for lawbreaking. There is no AI exemption to the laws on the books, and the FTC will vigorously enforce the law to combat unfair or deceptive practices or unfair methods of competition,” Khan added.
CFPB Director Rohit Chopra echoed Khan’s sentiments and said the Bureau, along with other agencies, are taking measures to address unchecked AI. “While machines crunching numbers might seem capable of taking human bias out of the equation, that’s not what is happening,” Chopra said. “When consumers and regulators do not know how decisions are made by artificial intelligence, consumers are unable to participate in a fair and competitive market free from bias,” Chopra added. The Director’s statements concluded by noting that the Bureau will continue to collaborate with other agencies to enforce federal consumer financial protection laws, regardless of whether the violations occur through traditional means or advanced technologies.
Additionally, Assistant Attorney General Kristen Clarke of the DOJ’s Civil Rights Division noted that “[a]s social media platforms, banks, landlords, employers and other businesses  choose to rely on artificial intelligence, algorithms and other data tools to automate decision-making and to conduct business, we stand ready to hold accountable those entities that fail to address the discriminatory outcomes that too often result.”
District Court orders fintech to pay $2.8 million to settle claims of price manipulation of crypto-assets security
On April 20, the U.S. District Court for the Southern District of New York entered a final judgment in which a fintech company and its former CEO (collectively, “defendants”) have agreed to pay the SEC more than $2.8 million to settle allegations that they manipulated the price of their crypto-assets security. The SEC filed charges against the defendants last September for “perpetrating a scheme to manipulate the trading volume and price” of their digital token, and for effectuating the unregistered offering and sale of such token. The complaint also contended that the defendants hired a third party to create the false appearance of robust market activity for the token and inflated the token’s price in order to generate profits for the defendants. According to the SEC, the defendants allegedly earned more than $2 million as a result. The SEC charged the defendants with violating several provisions of the Securities Act of 1934 and Rule 10b-5, as well as certain sections of the Exchange Act. At the time the charges were filed, the third party’s CEO consented to a judgment (without admitting or denying the allegations), which permanently enjoined him from participating in future securities offerings and required him to pay disgorgement and prejudgment interest.
The defendants, while neither admitting nor denying the allegations, consented to the terms of the April final judgment. The company agreed to pay nearly $2.8 million, including more than $1.5 million in disgorgement of net profits, a civil penalty of more than $1 million, and roughly $240,000 in prejudgment interest. The former CEO agreed to pay more than $260,000, representing disgorgement, prejudgment interest, and a civil penalty. Both defendants are permanently enjoined from engaging in future securities law violations, and are restricted in their ability to engage in any offering of crypto asset securities.
Fed governor weighs tokenization and AI
On April 20, Federal Reserve Governor Christopher J. Waller spoke on innovation and the future of finance during remarks at the Global Interdependence Center. Commenting that “[i]nnovation is a double-edged sword, with costs and benefits, and different effects on different groups of people,” Waller stressed the importance of considering whether innovation is creating new efficiencies and helping to mitigate risks and increase financial inclusion or whether it is creating new or exacerbating existing risks. Waller’s remarks focused on two specific areas of innovation that he believes may have the potential to deliver substantial benefits to the banking industry: tokenization and artificial intelligence (AI).
With respect to tokenization and tokenized assets, Waller flagged several advantages to innovations in this space that use blockchain over traditional transaction approaches, including (i) being able to offer faster or “even near-real time transfers,” which can, among other things, give parties precise control over settlement times and reduce liquidity risks; and (ii) “smart contract” functionalities, which can help mitigate settlement and counterparty credit risks by constructing and executing transactions based on the meeting of specified conditions. He acknowledged, however, that both innovations introduce risks, including potential cyber vulnerabilities and other risks.
Waller also addressed the banking industry’s use of AI to increase the range of marketing possibilities, expand customer service applications, monitor fraud, and refine credit underwriting processes and analysis, but cautioned that AI also presents “novel risks,” as these models rely on high volumes of data, which can complicate efforts to detect problems or biases in datasets. There is also the “black box” problem where it becomes difficult to explain how outputs are derived, where even AI developers have difficulty understanding exactly how the AI technology approach works, Waller stated. “All of these innovations will have their champions, who make claims about how their innovation will change the world; and I think it’s important to view such claims critically,” Waller said. “But it’s equally important to challenge the doubters, who insist that these innovations are much ado about nothing, or that they will end in disaster.”