The New York Department of Financial Services’s Thursday announcement was historic because it marked the first time the department had granted a firm the right to operate a virtual currency exchange in the state, even if itBit did not actually receive a BitLicense, the state’s soon-to-be-finalized licensing regime for virtual currencies, and will instead operate under a trust charter that has tougher requirements.
Instead, itBit, which has been operating in Singapore since November 2013, received a charter to operate as a limited-purpose trust company under the New York state banking law. This means it will have to operate under anti-money laundering, capital and other requirements that are nearly identical to those that would apply to a more traditional bank working under a state banking charter. Because of that, the firm will comply with regulations that are more stringent than applicable BitLicense requirements when they come into force.
ItBit’s strategy should be a model other firms to consider when they apply to operate in New York, Michael Krimminger, the Cleary Gottlieb Steen & Hamilton LLP partner who helped guide itBit through the application process, said in an interview with Law360.
What set itBit up to succeed with the Department of Financial Services is that from its founding in 2010 to the launching of its operations in Singapore in 2013, it had its eye on setting up shop in the United States, he said.
To do that, itBit developed anti-money laundering and know-your-customer protocols that met the highest global standards even before making its application to the DFS, Krimminger said. As an example, the company developed protocols where it checked, double-checked and triple-checked the records of new customers when they came on board, he said.
“It made this process much smoother than it ever could have been otherwise,” Krimminger said.
Those protocols allowed itBit to prove it was serious about compliance with the DFS and established a working relationship that allowed for an agreement on a charter in a matter of months after itBit approached the agency.
“It was great working with the New York Department of Financial Services because they wanted to have an open dialogue,” Krimminger said. “They were very transparent about what their questions were and how they saw the emerging BitLicense framework and how it would be working in parallel with doing a trust company charter.”
ItBit won the right to begin operations immediately once the DFS awarded it a charter, giving it a first-mover advantage and a seal of approval from one of the most aggressive regulators in the U.S.
“Now you’ve got something you can trust in its ability to perform and in the safety and soundness of the company,” Krimminger said.
Going the trust charter route opened up itBit to higher levels of regulatory scrutiny than even operating under the BitLicense. But contrary to many complaints from the virtual currency industry, those increased compliance requirements will give the firm more room to adapt and innovate as the regulatory regime for virtual currency firms develops, Krimminger said.
“It gives you a good, solid regulated basis from which you can innovate in response to changing legal requirements,” Krimminger said in an interview with Law360. “If you’re already meeting the bank-level standards, you’ll probably be able to adapt to any new standards going forward pretty easily.”
The New York DFS has been working to craft the BitLicense, the first-ever state licensing regime for virtual currency operations, for nearly two years. New York Superintendent of Financial Services Benjamin M. Lawsky has said that the final version of the BitLicense rule will be released by the end of the month.
To Krimminger, setting up a licensing regime that will have strict know-your-customer rules as well as capital standards, consumer protection and data security requirements is a vital step to helping virtual currencies like Bitcoin gain traction with the broader public.
Although some firms like online retailer Overstock.com have begun accepting Bitcoin, other businesses have been more reluctant given recent headlines alleging that drug cartels, terrorist groups and other criminal elements have been using virtual currencies to evade authorities.
“Without some kind of regulation, without some kind of oversight, I don’t think the public or commercial companies would ever have confidence in this marketplace,” Krimminger said.
However, the founders of many virtual currency businesses have been looking at their firms more as technological enterprises than as financial institutions and have often been surprised at the degree of regulation that they face. That is going to have to change, Krimminger said.
“If you look at something as a financial company, you’ve got to understand that for better or worse, you’re going to be subject to a lot more regulation,” he said.
Even before the BitLicense comes into effect, virtual currency firms are subject to oversight from the Financial Crimes Enforcement Network, a unit of the Treasury Department, noted Krimminger, who is a former top Federal Deposit Insurance Corp. official.
“Coming to terms with that and understanding how you can build value for a company within that framework of regulation is a little bit of a dialogue with the regulators and a little bit of a dialogue with the companies,” Krimminger said.
--Editing by Kat Laskowski and Philip Shea.
