The Financial Crimes Enforcement Network (“FinCEN”), part of the U.S. Treasury, issued two administrative rulings today clarifying application of their March 18, 2013 guidance to two bitcoin business models. We’re pleased to see the ongoing dialogue between FinCEN and the bitcoin community continue with these well-reasoned, informative clarifications.
As background on this type of administrative action, a federal agency (like FinCEN) may issue administrative rulings in response to inquiries submitted by individuals or businesses. Generally speaking, individuals or businesses may formally request that the agency clarify whether a certain activity or business model is subject to particular agency rules or regulations. After issuing an administrative ruling privately to the submitting party, the agency may then publish these rulings with certain sensitive information redacted.
FinCEN’s March 2013 Guidance
In March 2013, FinCEN issued guidance on how its rules apply to actors in the bitcoin space. The agency created three categories of possible actors:
(1) Administrators: “a person engaged as a business in issuing (putting into circulation) [bitcoins], and who has the authority to redeem (to withdraw from circulation) [bitcoins].”
(2) Exchangers: “a person engaged as a business in the exchange of [bitcoins] for real currency, funds, or other virtual currency.”
(3) Users: “a person that obtains [bitcoins] to purchase goods or services.”
Users are not money services businesses (“MSB”s) under FinCEN regulations. However, an administrator or exchange is a MSB under the “money transmitter” category and subject to FinCEN regulations if it does one of two things: (1) “accepts and transmits” bitcoins; or (2) “buys or sells” bitcoins.
FinCEN’s guidance was not exactly clear as to how the various actors in the bitcoin community fit into this structure. Some were concerned that it created a dynamic where miners who used the bitcoins they mined to purchase goods or services were “users”, but miners who sold the bitcoins they mined for real currency were money transmitters. Thankfully, today’s ruling helps straighten this out in a sensible way.
FinCEN’s first administrative ruling stated that a company that mines bitcoins can use their mined bitcoins to purchase goods or services and pay the company’s debts (including to owners and for shareholder distributions), or convert the bitcoins into legal tender currency and use that legal tender currency to pay debts or purchase goods or services for the comapny’s benefit, without being a MSB. FinCEN explained that when an individual or a company uses bitcoins that it mined for itself for its own benefit that the company has neither accepted nor transmitted and, thus, does not entail money transmission. (p. 3) Furthermore, when the individual or company converts its mined bitcoins into legal tender currency or other convertible virtual currencies, it is not acting as an exchanger so long as the transaction is for the individual or company’s own benefit, and not done as a service for a third party. (p. 3) More pointedly: “A user’s conversion of Bitcoin into a real currency or another convertible virtual currency, therefore, does not in and of itself make the user a money transmitter.” (p. 3) FinCEN does note that if a user sends its bitcoins to a third party at the direction of a seller or creditor, such activity may constitute money transmission. (p. 3)
Interestingly, part of FinCEN’s analysis noted that the method by which a person or company receives bitcoins (whether it be by mining, purchasing or earning) is “not material to the legal characterization under the BSA of the process or the person engaging in the process” of sending bitcoins to another person or place. (p. 2) Instead, what is material is “what the person uses the [bitcoins] for, and for whose benefit.” (p. 2) The application of these concepts here could easily be analogized to those who purchase bitcoins and those who earn bitcoins as wages, and may offer a glimpse of FinCEN’s thinking on those matters as well.
Virtual Currency Software Development and Certain Investment Activity
FinCEN’s second administrative ruling looked at two things: (1) whether a company would be a MSB if it created software to facilitate its purchase of virtual currency from sellers for purposes of its own investment when such software automates the collection and payment of legal tender currency to the seller of virtual currency; and (2) whether a company’s periodic investment in convertible virtual currencies would make the company a MSB.
FinCEN first addresses the software development inquiry by stating that the mere production and distribution of software “would not constitute acceptance and transmission of value, even if the purpose of the software is to facilitate the sale of virtual currency.” (p. 2) As such, the company would not be a MSB and would not be subject to FinCEN’s rules. However, since these administrative rulings are responses to particular business models, it should be noted the software in this case would only be used by the company and its counterparties, and not sold to third parties.
FinCEN went on to address whether investing in convertible virtual currencies would make someone a MSB. Simply put, the answer is no, so long as the investor is investing on its own account and not on behalf of others. (p. 4) If any transfers to third parties occur, then money transmission may be occurring. Putting a finer point on it, FinCEN notes that providing investment services to third parties may indeed make the company a MSB and the provision of exchange services would in fact make the company a MSB. (p. 4)
When making a ruling on whether or not an individual or business falls into one of the three defined categories under the virtual currency guidance, FinCEN will key on who benefits from a given activity. In both rulings, the use of bitcoin, or other convertible virtual currency, was for the benefit of a single party (the actor’s own benefit) and in both cases that meant that the actor fell under the “User” category and was therefore not a MSB. FinCEN explicitly noted that actors may be either “Exchangers” or “Administrators” if third parties are involved in any transactions.
The biggest takeaway for the bitcoin community should be this: FinCEN will listen and reply and give you clear guidance if you ask them about your business model. That sort of clarity is a big step down the path of creating a sane regulatory environment.