Kathleen Kraninger, only the second Senate-confirmed director of the Consumer Financial Protection Bureau (CFPB) in its almost eight-year existence, recently gave her first public remarks. The priorities Director Kraninger laid out will materially impact the CFPB’s direction and mission until the end of her term in December 2023. Director Kraninger, appointed by President Donald Trump, succeeds the first CFPB director, Richard Cordray, who was appointed by President Barack Obama.
We write frequently about the SEC’s and the CFTC’s focus on cryptocurrencies, but potential issuers should also be alert to other oversight, including possible enforcement actions, from other regulators as well. Indeed, state Attorneys General are playing a greater role in evaluating whether the mining and use of cryptocurrencies works to the disadvantage of consumers and small businesses. These state enforcement and regulatory officials are becoming ever more powerful. Furthermore, some of them may seek to expand the scope of their authority by pushing the “round peg” of “virtual” financial technology offerings into the “square hole” of outdated “physical only” state statutes and rules.
Meetings of the Conference of Western Attorneys General (CWAG) in New Mexico last week and of the Republican Attorneys General Association (RAGA) (Rule of Law Defense Fund) in California this week included panel discussions of cryptocurrency issues that are now before the Attorneys General and senior staff. Accordingly, fintech companies that intermediate cryptocurrencies should be aware of the increased risk in conducting these activities in particular states.
At a recent meeting of state attorneys general, Consumer Financial Protection Bureau (CFPB) Acting Director Mick Mulvaney reiterated his message, previously reported here that his bureau will no longer “push the envelope” on enforcement matters.
At the conclusion of his remarks, Pennsylvania Attorney General Josh Shapiro (D) asked Mulvaney whether this change in enforcement philosophy means that the CFPB will interfere in or otherwise impede the use of state attorney general authority to enforce certain Dodd-Frank provisions, specifically those penalizing conduct which is “unfair, deceptive, or abusive” (UDAAP) in federal court. Mulvaney responded unequivocally that it would not.
Recent events in the cryptocurrency markets, including the wild swings in the trading prices of bitcoin, the growing incidence of initial coin offerings (ICOs) entailing the offer and sale of unregistered securities, and the launch of bitcoin futures trading, have encouraged the federal government to ratchet up its interest in virtual currencies. Not only have the Commodity Futures Trading Commission (CFTC) and the US Securities and Exchange Commission (SEC) made public announcements about virtual currencies and taken enforcement action against virtual currency companies or initial coin offerors in recent months, but Congress now is showing increased interest in bitcoin and other virtual currencies. A few very recent signals of heightened governmental interest in virtual currency are highlighted below:
- The Senate Committee on Banking, Housing, and Urban Affairs (Senate Banking Committee) held two hearings in January during which virtual currencies were discussed in connection with strengthening anti-money laundering (AML) laws
- Reports indicate that the Senate Banking Committee will hold a hearing in February to analyze the implications of cryptocurrencies. CFTC Chairman Christopher Giancarlo and SEC Chairman Jay Clayton will likely testify at the hearing
- On January 19, Mr. Giancarlo called on the Futures and Derivatives Bar to “set the course for the future” of virtual currencies
- In a January 22 speech, Mr. Clayton again cautioned market professionals and “gatekeepers” that they need to “do better” in their handling of ICOs, and said that the SEC staff will be on “high alert” for ICOs that may be “contrary to the spirit of our securities laws.”
US Attorney General Jeff Sessions has just issued a memorandum (AG Memo) rescinding prior US Department of Justice (DOJ) guidance on the federal prosecution of marijuana offenses, including the 2013 “Cole Memorandum” (Cole Memo) and subsequent guidance regarding marijuana-related financial crimes (Financial Crimes Memo). The Cole Memo, among other things, expressly acknowledged the legalization of marijuana in several states for medical and recreational purposes and directed federal prosecutors to focus their enforcement priorities and resources on activities that align with current DOJ enforcement priorities. In turn, these priorities emphasized the prevention of marijuana-related activities posing the most significant threats to public safety and welfare (such as preventing the sale of marijuana to minors, or preventing marijuana sales from benefiting criminal enterprises). The Cole Memo in substance encouraged federal prosecutors to take a “hands-off” approach on the prosecution of “low level” marijuana-related offenses in those states that have legalized in some form the possession or use of marijuana for medical or recreational purposes. The subsequent Financial Crimes Memo carried forward the Cole Memo principles to the prosecution of banks and other financial institutions participating in marijuana-related banking and financial activities.
The rise of cryptocurrencies and initial coin offerings (ICOs) undoubtedly shows that we live in interesting times that regularly present us with new and innovative products, markets, and opportunities. When the words “new” and “innovative” come to mind, the federal government is usually not part of the conversation. But the US Securities and Exchange Commission (SEC) under Chairman Jay Clayton appears more than willing to challenge that stereotype and to use the SEC’s regulatory and enforcement authority to take on the complex legal and other issues arising from innovative ICOs and other cryptocurrency products. Throughout these efforts, the SEC’s message has been clear and consistent: it will apply established federal securities laws principles and use its regulatory authority over ICOs and other cryptocurrency products expansively when appropriate, and it expects “gatekeepers” to aid in that effort.
Recent SEC Enforcement Actions: Munchee and Plexcorps
Two SEC enforcement actions over the last few weeks represent just the latest attempt by the SEC to get its message across. Most recently, it announced on December 11 a settled enforcement action that halted an ICO by Munchee Inc., a California business that created an iPhone app for reviewing restaurant meals. In a remarkably quick action for the SEC, it brought the case just weeks after Munchee commenced its ICO. The SEC charged Munchee with violating Sections 5(a) and 5(c) of the Securities Act of 1933 (the Securities Act) by conducting an unregistered offering of securities, and is notable because the SEC did not allege that Munchee made any misrepresentations in connection with the offering. Bringing such a standalone unregistered offering case is unusual for the SEC and represents its intention to bring these cases quickly, even in the absence of fraud.
On July 25, the US Securities and Exchange Commission (SEC) issued a Report of Investigation (Report), along with a companion investor bulletin, telling the world that if you use distributed ledger (blockchain) to raise capital, you must comply with federal securities laws. Is this a surprising development? We believe not.
The subject of the Report is The DAO and its related parties and founders. The DAO is an unincorporated organization styled as a “decentralized autonomous organization,” a form of virtual organization that conducts its commercial activities on a distributed ledger. The Report describes The DAO as a for-profit business that creates and holds assets through the sale of virtual DAO tokens (Tokens) to investors in exchange for virtual currency. These assets were to be used to fund a variety of “projects” generally entailing the automation—through a blockchain—of corporate governance and decision-making mechanisms, either within or outside of a traditional corporate structure.
The Consumer Financial Protection Bureau (CFPB) announced that it has filed suit against four online lenders owned by the federally recognized Habematolel Pomo of Upper Lake Indian Tribe based on alleged violations of state licensing and usury laws.
The factual allegations in this lawsuit, filed in the US District Court for the Northern District of Illinois, are unremarkable. The CFPB charges that the online lenders at issue make small-dollar loans at very high interest rates and that the entities’ tribal ownership is both legally irrelevant and factually dubious. The CFPB also alleges relatively modest violations of Regulation Z’s requirement to disclose the annual percentage rate in an oral response to a consumer inquiry about the cost of credit. The CFPB, however, alleges that the defendants engaged in unfair, deceptive, and abusive acts and practices (UDAAP) in violation of federal law through their efforts to collect on loans that were usurious under state law, or for which other state-law violations vitiated or limited the borrowers’ obligation to repay.
Determined to push forward with its Dodd-Frank Act reform legislation agenda, on April 11 the US House Financial Services Committee (Committee) released a summary of changes that it intends to make to the Financial CHOICE Act (CHOICE Act)—Dodd-Frank Act reform legislation that was introduced in the House of Representatives last fall but was not enacted before the end of the 114th Congress. Dubbed “CHOICE 2.0,” the summary outlines a number of significant changes that the Committee says will be included in the legislation when it is reintroduced in the House, possibly later this spring. On April 19, the Committee released a CHOICE 2.0 discussion draft that reaches almost 600 pages. The Committee’s current plan is to hold hearings on CHOICE 2.0 later this month.
This is not a blog post about how to empty your backyard of unwanted exotic pets.
A recent US Court of Appeals decision out of the Seventh Circuit, Builders Bank v. Federal Deposit Insurance Corporation, is attracting attention because it appears to say that a bank that does not like its supervisory—or CAMELS, which stands for Capital, Assets, Management, Earnings, Liquidity, and Sensitivity to market risk—rating may sue the federal banking agency to challenge the rating. Given the central status and impact of the supervisory CAMELS ratings system in the pantheon of bank regulation, the ability of a bank to challenge a bad CAMELS rating in court might be a dream come true for some. We have read the decision, however, and for the time being, to borrow a phrase from the comedy TV show, we will “curb our enthusiasm” over the “right” conferred by this decision.