New York’s crypto regulation, BitLicense and the blockchain explained

What is cryptocurrency?

Cryptocurrency, in its simplest terms, is a type of encrypted digital cash.

Unlike money issued by a central bank, cryptocurrencies do not exist in physical form. Rather, they are stored in a computerized database. Crypto can sometimes be used to buy regular goods and services, but the currencies are more often treated as investments.

Bitcoin was the first cryptocurrency and it is the most famous. Other examples are Ethereum, Litecoin and Dogecoin.

One can buy crypto on exchanges such as Coinbase. SoFi, Venmo and several other fintech companies have opened their platforms to crypto trading.

Crypto is designed to be decentralized, meaning no single entity monitors transactions. Crypto’s self-regulatory feature is a key appeal to enthusiasts, as no central bank or government sponsor is required.

How does blockchain technology work?

The blockchain is essentially a public ledger system that records transactions electronically and keeps track of who owns what. The blockchain is public and exists on data servers all over the world – which is what allows crypto to act independently of a central authority.

Ledger entries are sorted into blocks, which are linked together so that they can be tracked over time. The ledger is protected by cryptography, making it difficult for an outsider to change or hack it. The system is robust enough that millions of users now rely on blockchain technology to record financial transactions – and that trust is the foundation of currencies’ value.

How big is the crypto industry in New York?

Crypto had a five-year run as the fastest-growing startup subsector in New York. It peaked at the end of 2021, when the startups were on track to raise $6.5 billion from investors – the most of any US region.

Last year brought trouble for crypto, wiping $2 trillion from their total market capitalization and shaking the New York community. Investor dollars froze, and there were layoffs at city-based startups that had soared to multibillion-dollar valuations months earlier.

Despite the turmoil, there are signs that the industry is on the way back up. Currency values ​​are starting to rise again. Bitcoin, for example, hit $30,000 on April 11, up 80% since the start of the year, though it remains far from its peak of $65,000 in 2021. Meanwhile, major financial institutions continue to carve out space in the crypto world, and some companies see hope in what is poised to become a more regulated industry.

How is crypto regulated?

New York was the first state to regulate crypto with the introduction of the BitLicence in 2015 (more on that below).

Since the crash last year, officials across the state have rushed to crack down on the industry. Attorney General Letitia James, for example, has sued crypto companies that she says violate New York’s investor protection laws.

Governor Kathy Hochul signed a bill in November that imposed a two-year moratorium on allowing new gas-powered crypto mining facilities. The law prevents the state from issuing new permits to companies that want to start mining in facilities that use a carbon-based fuel. Mining requires significant amounts of electricity.

The Department of Financial Services, the powerful state banking regulator, has expanded its staff of industry inspectors and has new powers to charge companies for inspections.

Lawmakers in the current legislative session are considering bills that would add certain types of crypto fraud to the criminal code and require greater disclosures in advertising for crypto products.

What is a BitLicense?

Simply put, a BitLicense is the required credential for companies looking to facilitate crypto transactions in New York. Among the requirements are regularly audited accounts and systems to prevent money laundering.

Obtaining a BitLicense involves submitting two years of audited financial statements, registering with the US Treasury Department’s Financial Crimes Enforcement Network and providing an independent assessment of the applicant’s money laundering detection systems. The New York DFS recently began charging BitLicense recipients for the cost of the oversight and investigation, similar to how banks are regulated.

When the BitLicense first took effect in 2015, critics called the requirements too slow and burdensome for a new, fast-moving industry. But about 30 companies eventually bought into it or received a related virtual currency government trust charter. Now New Jersey and other states are considering their own version of a crypto-specific license.

How does the federal government regulate crypto?

One of the biggest sticking points in federal efforts to regulate the industry is deciding whether crypto tokens should be considered securities or commodities.

The Securities and Exchange Commission has argued for the former. Chairman Gary Gensler has said that most cryptocurrencies outside of Bitcoin are securities that must play by the same rules as stocks and other investments overseen by his agency.

Meanwhile, many industry advocates say crypto more often functions as a commodity and should therefore be overseen by the Commodities Futures Trading Commission. But consumer groups say the SEC has greater resources and a stronger investor protection mandate than the futures market regulator.

Existing law leaves this distinction to the nearly 80-year-old Howey test, where a transaction is a security if it is determined to be an investment contract.

Congress can set guidelines for the industry, but previous attempts have stalled. That means, at least for now, both bodies will continue to have their hands on the scales, with the SEC and CTFC each bringing enforcement action against key players in the industry.