FTX changed crypto regulation. Here’s what 2023 has in store

There was a time in 2022 when it looked like the Securities and Exchange Commission (SEC) might back away from its shoot-first-ask-questions-later approach to crypto regulation. After months of aggressively pursuing and investigating crypto exchanges for alleged violations of current US securities laws at the behest of crypto critic and SEC Chairman Gary Gensler, at least one of the regulatory body’s commissioners expressed displeasure with how Gensler carried out the organization’s mandate.

While speaking to the nft now in the summer of 2022, SEC Commissioner Hester Peirce made clear her view that the body should work with crypto exchanges cooperatively rather than simply punish. “I would say that 2022 is the year to lay the groundwork for future legislative and regulatory activity,” she said somewhat hopefully.

But since the fall of FTX, crypto advocates and skeptics have come together to recognize that – however it happens – something needs to change about Web3 oversight. If 2022 was a time to lay the groundwork for regulatory activity in the crypto industry, you’d think 2023 would kick that activity into overdrive. But lawmakers are taking a moment to back away from passing such legislation. And they have the right to do so.

SEC vs. CFTC: Who Wins?

One of the ways the US government is considering responding to the fall of FTX is through the Senate Agriculture Committee’s Digital Commodities Consumer Protection Act (DCCPA). The proposed bill, which was drafted at the time of FTX’s collapse and has since been put on hold in light of that event, remains a potential and contentious option in Washington for several reasons.

First, it would give the Commodity Futures Trading Commission (CFTC), not the SEC, jurisdiction over Bitcoin, Ethereum, and likely other cryptocurrencies. The two bodies have increasingly sparred with each other over a central question: are digital assets such as cryptocurrency commodities or securities? If they are classified as the former, they will likely fall under the CFTC’s jurisdiction. And while CFTC Chairman Rostin Behnam has argued that the perception that the organization is a more lax regulator of the industry is an illusion, some of the provisions set forth (in at least some versions of the DCCPA) indicate otherwise.

In accordance The Wall Street Journal, while at least some versions of the proposed bill maintain the SEC’s ability to go after exchanges that list tokens that meet its definition of a security, the legislation would give the exchanges themselves first-instance discretion to determine whether or not a particular listed token was a security. security or a commodity. While it would not give the exchanges the final say in doing so, it would give them some authority in deciding this crucial legal question, which is far more leeway than they would likely be given if they were brought under the official jurisdiction to the SEC.

The crypto industry is increasing its lobbying efforts

Over the past 12 months, crypto lobbyists have formed a cohesive force in Washington, resulting in several members of Congress championing bills like the pro-CFTC DCCPA and urging the SEC to back off its antagonistic stance toward the industry. Representatives such as Tom Emmer (R-MN) and Ritchie Torres (D-NY) are among this group.

However, the ethical waters get murky here, as both individuals have received donations from crypto lobbyists and industry heavyweights – such as Ben Horowitz, Chris Dixon, Anthony Albanese and FTX executives.

The optics of lobbying behind the curtain of success is another reason why the DCCPA bill is so controversial. But controversy might be warranted even if the FTX arc never happened. If passed, the bill would result in years of rulemaking by the CFTC to build a regulatory framework from the ground up. This is because the CFTC is the smaller of the two regulatory bodies that aim to rein in the industry, and does not yet have the specific regulatory infrastructure to do so. But once it’s started, the industry will heavily lobby the organization and Congress to bend those rules in their favor.

Security or commodity?

Regulators must reach a final consensus on whether specific digital tokens are securities. For years, Gensler has been vocal about wanting to bring digital assets under the regulatory body, repeatedly arguing that most cryptocurrencies can be classified as securities and that exchanges should be registered as national stock exchanges.

Because Gensler believes that more traditional methods (such as the Howey test) of determining whether something is a security are fully applicable to digital assets, the need to draft new legislation to address these Web3 phenomena is less of an urgent priority than applying existing law. CFTC’s Benham believes the two organizations can work together on these gray area issues. Nevertheless, few in the crypto industry are likely to have much faith in this collaboration until clear lines are drawn around which classification cryptocurrencies fall under.

While the DCCPA is still considered the bill with the best chance of becoming law in Washington (despite its current stalemate), one of the reasons it’s on hold is that one of its biggest champions was Sam Bankman-Fried. That connection alone has given the entire legal apparatus reason to pause.

How crypto exchanges should prepare for 2023

Throughout much of 2022, crypto exchanges and brokers waited for the US Treasury Department and the Internal Revenue Service (IRS) to clarify their stance on how these entities must interact with Sections 6045 and 6045A of the Internal Revenue Code. These sections require anyone doing business as a broker to report details of their customers’ names, addresses and other information to the IRS.

The answer to the question of who qualifies as a broker is still unknown. In particular, the Infrastructure Investment and Jobs Act (IIJA), which President Biden signed into law in November 2021, provided an updated definition of the term “broker,” which now includes “any person who (for consideration) is responsible for regularly providing a service that performs transfers of digital assets on behalf of another person.” Crypto exchanges, both centralized and decentralized, are now trying to guess whether they fit the definition.

On December 23, 2022, the Treasury provided less clarity on this issue than exchanges had hoped for, announcing only that cryptobrokers are not required to report additional information than they already are “with respect to dispositions of digital assets until final regulations are issued under sections 6045 and 6045A.”

The announcement is essentially a stop-gap measure, where the language of the reporting is intentionally vague. The tax authorities are probably in no rush to get ahead of the curve until a more coherent and cohesive set of regulations for exchanges and brokers emerges. The notice’s wording also appears to indicate that taxpayers who are not crypto brokers or exchanges will not be required to provide additional reporting to the IRS regarding transfers of digital assets until updated regulations are added to sections 6045 and 6045A.

But changes are likely to come to the regulatory landscape in 2023, and exchanges need to be ready, at least by the end of that year. While speaking during a January 5 webinar hosted by Blockwork, Erin Fennimore, head of tax and information reporting solutions at TaxBit, explained that exchanges should do their best to look at the existing tax code framework and the IIJA to determine if they can fall under the “broker” category when Sections 6045 and 6045A are updated. If they think they’ll fall into that category, Fennimore advises them to go ahead and collect details on the kinds of customer information listed in these sections and start building data collection methods into their onboarding processes.

As for FTX’s effect on all this, Fennimore was blunt.

“We never will [events like FTX] to happen,” Fennimore said while speaking with nft now during Blockworks’ webinar. “I think they highlight the critical need for regulation. […] All in all, what I took with me this year with FTX and others is that there is a clear need for regulation from various aspects. Whether fiscally or financially, all this highlighted the need much more clearly. I hope what comes out of it is faster regulation from our public agencies.”

Washington’s crypto regulation pause

An increase in regulatory pace for crypto and NFTs is as likely as ever, but Washington is rightfully taking a moment to collect itself before moving forward on that agenda — and that’s for the better. While how much the SBF’s involvement in the DCCPA’s design may have benefited FTX at the expense of other exchanges or Web3 at large, it is clear that some of the first significant regulation of the industry should not come riding on the impact of one of its biggest frauds .

As the Web3 world continues to pick up the pieces from the disaster of FTX and Sam Bankman-Fried’s recklessness, it is undoubtedly not a bad idea to make at least some regulatory progress. How it plays out exactly will determine the development of the industry. But whichever organization ends up as its arbitrators and enforcers, lawmakers must be careful to ensure they get it right from the start — something the industry itself too often seems to have little respect for doing.