The Financial Innovation and Technology for the 21st Century Act (also known as FIT21 or “the crypto bill”) recently passed the House with overwhelming bipartisan support and is now on its way to the Senate. This landmark legislation aims to provide much-needed regulatory clarity for the cryptocurrency industry.
As a pioneering firm in cryptocurrency law, Gordon Law is here to break down what this bill (which you can read in full here) means for cryptocurrency in the United States.
1. The Main Idea: Staking Territory for the CFTC and SEC
George Shakro, Associate Attorney at Gordon Law, explains, “FIT21 isn’t as in-depth as the Lummis-Gillibrand bill [from 2022]. The main thing this bill does is try to set up a skeleton for which governing body is going to be in charge of crypto.” This foundational work is crucial, as it helps lay the groundwork for future regulations.
One of the core objectives of The Financial Innovation and Technology for the 21st Century Act is to establish a clear regulatory framework for cryptocurrency, defining the roles of the Commodity Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC).
If the bill becomes law, the CFTC and SEC will have 30 days to propose a regulatory framework based on the definitions of “commodity” and “security” provided in FIT21.
The bill’s definitional focus is a key element. Shakro notes, “The bill defines some extremities. For example, BTC would definitely be a commodity and tokens such as UNI would almost definitely be a security. Then, it will be up to the CFTC and the SEC to fill in the gaps.”
The CFTC and SEC will establish a joint advisory committee to determine their respective jurisdictions. The committee will “provide the Commissions with advice on the rules, regulations, and policies of the Commissions related to digital assets” and provide further clarity about the classification of digital assets.
The exact regulatory landscape will only become clear once these agencies propose their regulations, but the establishment of clear definitions and roles is a significant first step.
2. Commodities vs. Securities
A critical aspect of The Financial Innovation and Technology for the 21st Century Act is its effort to delineate between commodities and securities within the cryptocurrency space. This distinction is essential for understanding who will regulate certain types of digital assets.
For years, both the SEC and CFTC have been independently bringing enforcement actions against digital asset companies, with no clear guidelines. This move aims to provide much-needed clarity in the industry, delineating which governing bodies will oversee specific aspects of digital asset regulation.
Defining Commodities and Securities
Under FIT21, most cryptocurrencies would be considered commodities by default. To qualify as a commodity, a digital asset must meet specific criteria:
- Functional Blockchain: The blockchain must be operational and in use. Investors must be able to trade the asset.
- Decentralization: The asset must not be under the unilateral control of a single person or entity for at least 12 months. Additionally, if an individual or entity owns 5% or more of the asset’s total supply, it could be classified as a security instead.
Attorney and CPA Andrew Gordon, Managing Partner, says, “I can’t overstate the importance of having clear rules for when a token is a security, rather than an obscure look-and-feel test. Currently, we rely on the Howey Test, which doesn’t fit many digital assets. This would completely reshape the legal landscape for crypto.”
Commodities Operating Through Security Vehicles
In cases where a commodity operates through a security vehicle, the CFTC would regulate the underlying asset, while the SEC would regulate the security vehicle.
For example, in an ongoing lawsuit between the SEC and Ripple Labs, Ripple received a surprising victory when a judge ruled that its XRP token was not a security in and of itself. However, the initial coin offering (ICO) was deemed a security.
FIT21 follows the same logic. It states, “A digital asset offered or sold or intended to be offered or sold pursuant to an investment contract is not and does not become a security as a result of being sold or otherwise transferred pursuant to that investment contract.”
In the Ripple example, the CFTC would regulate the XRP token, while the SEC would regulate the investment contract of the ICO.
3. Additional Points of Significance
FIT21 introduces several other regulatory changes that will significantly impact the cryptocurrency landscape. These changes aim to enhance transparency, protect consumers, and ensure the stability of the market.
New Requirements for Exchanges
- Dual Registration with CFTC and SEC: Most crypto exchanges, referred to as “digital asset trading systems” in the bill, will need to register with both the CFTC and SEC.
- Separation of Funds: Exchanges will be required to separate customer funds from company funds. This measure is designed to prevent situations similar to the collapse of FTX, where customer funds were mismanaged.
- Record-Keeping: Exchanges will need to adhere to stringent record-keeping requirements under the Bank Secrecy Act and meet the SEC’s standards for books and records. This increased transparency will help in monitoring and preventing fraudulent activities.
- Wind-Down Funds: Exchanges must maintain a certain amount of wind-down funds to cover potential shutdown scenarios, ensuring that customer assets are protected even if an exchange goes out of business.
Stablecoin Regulations
Stablecoins, which are designed to maintain a stable value by being pegged to a reserve asset like the USD, are also addressed in FIT21.
USD Reserves Requirement: Stablecoin issuers will be required to hold USD reserves equivalent to the amount of stablecoins issued. This regulation aims to prevent situations like the LUNA token crash, where insufficient reserves led to significant losses for investors. By ensuring a 1:1 value ratio with the USD, this measure will enhance the stability and reliability of stablecoins.
Protecting Consumers’ Right to Self-Custody
The crypto bill emphasizes the importance of consumer protection, specifically the right to self-custody of digital assets.
Self-Custody Wallets: The bill protects consumers’ rights to hold their digital assets in self-custody wallets, rather than relying solely on exchanges. This provision offers an extra layer of security, allowing users to safeguard their assets independently. In the event of an exchange failure, self-custody provides a crucial safeguard, ensuring that consumers retain control over their assets.
4. A New Era of Bipartisan Crypto Support
FIT21’s passage with a 67% majority in the House highlights a significant shift in the political landscape surrounding digital assets. Historically, crypto regulation has been a contentious issue, but this bill’s bipartisan support suggests that Democrats are rethinking the anti-crypto stance spearheaded by Senator Elizabeth Warren.
Additionally, the recent approval of an Ether ETF is seen as a sign that Democrats’ attitude toward crypto is shifting—perhaps due to the fact that an estimated 20% of US adults own crypto.
Mike Novogratz, CEO of the crypto investment firm Galaxy Digital, stated on CNBC’s Squawk Box, “It feels like someone at the Biden White House made a call and said, ‘Guys, we can’t be the party against crypto anymore.’” Novogratz went on to say, “I am sensing a widespread shift amongst Democrats that don’t want to let crypto be a big election issue.”
5. Shaping the Future of the US Crypto Market
FIT21 has the potential to transform the US crypto landscape. For blockchain developers and startups, this means a more predictable regulatory environment, encouraging innovation and attracting talent back to the US. The bill’s clarity on asset classifications and exchange requirements will reduce legal risks, making it easier for new projects to launch and grow.
As the CFTC and SEC work to propose their regulatory frameworks, the cryptocurrency community can expect a more defined landscape, where the rules are clear and the path to compliance is straightforward. This step is vital for the continued growth and maturation of the digital asset market, offering a balanced approach that considers both innovation and investor protection.
Gordon Law has helped crypto investors and developers navigate murky legal waters since 2014. As the legal landscape evolves, count on our experienced cryptocurrency attorneys for crystal-clear guidance, helping you navigate the new regulatory framework and seize emerging opportunities.
