SEC Commissioner: Custody Proposal Will Block Access to Crypto – Ledger Insights

Today, the SEC published new proposed rules regarding the need for financial advisors to use qualified custodians to control client assets. The proposal requires that the custody rules apply to all assets, not just securities and funds. Therefore, this will cover all crypto assets, whether they are securities or not. Republican Commissioner Uyeda argued that the new proposals make it difficult for advisers to handle crypto assets and be compliant.

“How can an advisor seeking to comply with this rule invest client funds in cryptoassets after reading this release,” Uyeda said.

“This approach to custody appears to mask a policy decision to block access to crypto as an asset class. It departs from the Commission’s longstanding position on the neutrality of the benefits of investments.” While Commissioner Hester Peirce is often outspoken on these topics — and was the only one to vote against moving forward with the proposal — Uyeda supported the proposal despite strong objections.

Uyeda referred to several points in the 434-page document. First, while banks have developed digital asset custody solutions, the paper mentions that federal banking regulators have raised safety and soundness concerns about banks getting involved.

He said the paper suggests that state-controlled trust banks are less reliable than federally chartered banks. The proposals request feedback on whether qualified custodians should be limited to federally regulated banks.

As an aside, several crypto custodians, including Coinbase Custody, Paxos and Fidelity Digital Assets, are New York state-chartered trust banks. We explored it further in an article yesterday.

And because most crypto trading platforms (exchanges) are not qualified custodians, they will be non-compliant if financial advisors use these platforms. While this is true, many users have lost significant sums as crypto exchanges and lenders have gone bankrupt over the past year without properly segregating and protecting customer assets.

Other custody highlights

For a bank or savings association to be a qualified custodian, it must hold assets in a segregated account “designed to protect such assets from creditors of the bank or savings association in the event of insolvency.”

One of the proposal’s requirements is that a qualified custodian must have exclusive possession and control over assets. The challenge with crypto assets is that if a custodian shows a private key, they put the asset at risk of theft. In some cases, the client and the custodian also have access to the private key, and both can perform transfers.

The requirement to use a qualified custodian is waived for privately offered securities. However, the proposal states that this exception is unlikely to apply to securities issued on a permission-free blockchain.

The comment period for the SEC proposal will run for 60 days from the time the proposal is published in the Federal Register.