Square, Inc., a major financial services provider in the United States, made history in January 2018 when it announced it would allow the transfer of Bitcoin via its mobile application. In June 2018, Square received approval from the New York Department of Financial Services to hold and trade or otherwise facilitate the trading of virtual currencies for its customers. The approval is known as a Bitlicense. To understand what this means for Square and the payment services industry, it is important to understand what is a Bitlicense and the limitations facing the industry.
What is a Bitlicense?
Virtual currencies are the subject of continued scrutiny by state and federal governments. The federal government has opined that most cryptocurrencies, such as bitcoin and ethereum are not securities subject to regulation by the US Securities and Exchange Commission. Read the LawTrades blog to learn more about securities regulation. This definition would also prevent states from regulating such cryptocurrencies under existing securities laws. Nonetheless, numerous states have passed financial protection measures to affect the trading or exchange of cryptocurrencies within that state. These laws particularly target the companies that hold or facilitate the trading of these currencies. Most notably, New York state passed perhaps the most comprehensive set of consumer financial protection provisions limiting the exchange of cryptocurrency.
New York Code of Regulations 23-1-200 et seq., lays out the state’s policy on virtual currencies. These regulations lay out the extensive requirements for facilitators of cryptocurrency exchange. Notably, the law only allows a platform to facilitate the exchange of virtual currencies upon receipt of a special license, known as a bitlicense, issued by the Department of Financial Services. To receive a license, a company must comply with a litany of regulatory procedures, including:
Request for licensing;
Meeting specific capital requirements;
Protections for customer assets;
Record keeping and examinations;
Reports and financial disclosures;
Compliance with anti-money laundering and Cybersecurity programs; and
Advertising and marketing limitations.
This list of requirements applicable to licensing makes receiving a Bitlicense an onerous, time-consuming, expensive process. Any company seeking to hold or facilitate the trading of cryptocurrencies will have to undergo this process. Further, the law requires approval for every new product offering. New product offerings would generally include different types of virtual currencies, such as tokens of coins from initial coin offerings.
What does this mean for Square and for the rest of the industry?
With the approval of Square’s Bitlicense, Square will stand as a dominant player in the virtual currency transfer market in New York State. The license will now allow the transfer of Bitcoin via its mobile application in New York. Square’s platform includes a point of sale (POS) solution widely used by merchants. Currently, Square only allows the transfer of bitcoin to designated outside wallets. It does not allow the transfer of bitcoin to other users of its CashApp. This transfer service was available in all but three states, New York, Hawaii, and Georgia, in the United States. Prior to the Bitlicense approval, Square did not allow this service to individuals located within NY state. While Square still has not introduced the exchange of Bitcoin directly by users within its CashApp, it is said to be working on this feature. This will provide a major payment option for merchants in all states, including New York, where Square is authorized or licensed to exchange currency.
The roll-out of the Bitlicense has not been well received. Many industry players believe that the law is too vague and makes it overly difficult for startup companies to comply with the law. For example, the law does not differentiate between companies that hold and transfer virtual currencies and those that simply facilitate the process. A popular method of facilitating the transfer of virtual currency is through a “mult-sig” product. These products add security to the process by facilitating the use of separate private keys to verify aspects of the transaction. These companies do not hold the virtual currency of its clients or users. The major scare for the industry is that other states will follow New York’s lead and pass similar laws. Common opinion is that these regulations will cause virtual currency startups to leave or avoid operations in New York.
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