Subject to a 10-day pre-proposal comment period, followed by a 60-day comment period upon publication in the state register, the New York State Department of Financial Services has published a draft regulation outlining the proposed methodologies to assess licensed virtual currency businesses for supervision and examination costs.
If it comes into effect, the proposed regulation will create a provision in the state budget FY23 for DFS to collect supervisory costs from virtual currency businesses, helping them acquire top talent for the virtual currency regulatory team. A proficient regulatory team would eventually ensure that the DFS stays adequately capable of protecting customer interests and the safety and soundness of the industry ecosystem.
Regulating virtual asset companies to ensure that they adhere to the industry-wide best practices is nothing new in the state of New York. After all, the regulatory framework, comprising efforts toward licensing, supervision, and enforcement, has been in place since 2015. It was the year when the state adopted 23NYCCR Part 200, which mandated obtaining licenses before engaging in virtual currency businesses under the authority given to the DFS by the FSL or Financial Services Law.
However, the genesis of New York’s digital asset regulation efforts involves a lot more. Before delving deeper into the current regulation proposed by the DFS, let’s look at how the virtual assets regulation framework kept evolving in the state.
Virtual Currency Regulation in the State of New York: The Genesis
BitLicense is probably the most discussed and debated among the efforts undertaken by the State so far in the realm of virtual currencies and their regulation.
What came as flagship crypto and virtual currency regulation in the state was but a licensing regime at its core. First issued in 2015, BitLicense implied a business license issued by the NYDFS for companies engaged in virtual currency activity.
There is no denying that the licensing regime was received by the industry and its diverse components with a significant amount of anxiety. Industry stakeholders contended that the regulations were discouraging and disincentivizing and required much more compliance than what the standard financial establishments had to adhere to.
Pushbacks that the regulation drew from emerging businesses drove the authorities to make some changes in the framework to make it more accommodative and inclusive. The regulators allowed the new licensees to collaborate with the existing BitLicense holders so that the latter could receive specific guidance to overcome the hurdles in obtaining the license.
However, there was no compulsion for the prevailing players to guide the new license applicant. On top of that, there was no reduction in the fees that a new applicant, an emerging virtual currency business, might have to pay together towards obtaining the licenses, paying the application and legal fees, etc.
While BitLicense remained a bone of contention and a reason for many virtual asset companies to relocate to a new crypto-friendly jurisdiction, more reasons for new businesses to worry continued to pop up. And the latest one among them was the 2-year moratorium imposed on new proof-of-work mining.
2-Year Moratorium on New PoW Mining
As recently as in the third week of November 2022, New York Governor Kathy Hochul signed a bill introducing a two-year moratorium on new PoW mining. It included new and renewed air permits for fossil fuel power plants used for PoW mining, considered energy-intensive or sometimes an energy-inefficient form of crypto mining.
The moratorium came into effect despite a series of objections raised by the New York Crypto Industry stakeholders. Although the moratorium kept existing operations like Greenidge Generation and other hydroelectricity-powered processes out of its purview, many industry lobbyists and organizations termed it as nothing less than a bad policy.
For instance, the New York State Lead of the crypto-lobbying Blockchain Association termed the moratorium an existential threat while referring to the BitLicense regime as another obstacle. However, the bill proponents cited the negative impact more PoW mining could have had on the environment and asked for a detailed study on its implications while the ban on new permits for fossil-fuel-powered PoW mining operations would be in effect.
In such a scenario, riddled with the complexities that these regulations and licensing regimes introduced, the New York State virtual currency businesses come face to face with another regulatory scheme, the Virtual Currency Assessment Regulation.
Virtual Currency Assessment Regulation
The New York State Department of Financial Services is undoubtedly ambitious about the proposed regulation. Admittedly, it believes that the “assessment authority will allow the Department to continue building the team which is leading the nation with a suite of regulatory tools.”
The regulation applies to entities that obtained licenses under the 23NYCCR Part 200. The billing would occur five times a year, including four quarters and one final assessment billing. In the following segments, we will look at the proposals in greater detail.
The Basis of Billing
As proposed in the bill, there will be four quarterly assessments, each involving nearly 25 percent of the projected annual amount. The projection will indicate the tentative budget to cover the total operating cost as applicable at the time of billing.
The fifth billing – or the final assessment billing – would be a true-up to match the actual operating costs for the entire year. It would be pertinent to mention that the New York State fiscal year starts on April 1st and ends on March 31st.
Any entity that has received its license for a part of the quarter would be assessed for the full quarter, with amounts to be paid within a month from the billing date.
Total Operating Cost
Since this is the amount businesses would have to pay for the year, it is crucial to know what it comprises. The cost would have two components: the supervisory and the regulatory component.
The supervisory component implies the sum of the Transmission Volume Basis Assessment for an individual licensee, where the Transmission Volume Basis means the allocation instrument used to distribute 50% of the Supervisory Hours among licensees.
It is calculated based on the total number of virtual currency transmissions by each licensee in New York for the previous calendar year. The categories that the licensees would fall into could be Small, Medium, or Large, depending on the 5%, 15%, and 30% allocation of supervisory hours.
The regulatory component reflects the cost of license examinations. The hourly rates play a decisive role in determining license examination costs. Hourly rate, as defined in the proposed regulatory bill, would imply the average hourly salary and fringe benefit costs of the examiners and the staff assigned for the supervision of the Licensees.
Additionally, the rate would include a multiplier, which the superintendent would determine. Essentially, the multiplier would reflect a part of the other operating overhead expenses of the department.
It is to note here that Licensee, as proposed in the bill, would mean an individual, partnership, corporation, association, joint stock association, trust, or any other entity that has its license under the provisions of 23 NYCCR Part 200.
Penalties, in the form of late fees and interest, would apply to all licensees. The penalizing authorities would include the FSL, the State Finance Law, and other relevant laws that might be applicable on a case-to-case basis.
These authorities are legally qualified and empowered to follow up on the nonpayment of penalties with appropriate enforcement actions. Such enforcement actions might include the suspension, revocation, expiration, or termination of licenses as deemed fit to the case.
Persons involved in the virtual currency business as a limited-purpose trust company or banking organization would not be assessed under 23NYCRR Part 200. For such entities, 23NYCRR Part 101 would continue to apply. However, if a person holds both, billing would be done separately for the limited purpose trust charter and the license.
Virtual Currency Assessment Regulation: A Boost or a Roadblock?
As the DFS believes, the effectuation of the proposed bill would help it strengthen the industry in the long run by ensuring a trustworthy, credible, and efficient virtual currency ecosystem.
The department would ensure best practices more rigorously as the costs associated with the department’s oversight of each person’s virtual currency would be properly taken care of. However, as many industry stakeholders believe, these bills might take a toll on the emerging businesses’ bottom lines, resulting in a growth impediment for the industry.
Many have already started seeing the proposal as a continuation of the apparent roadblocks that BitLicense and the 2-year moratorium on PoW mining pose to the industry. To what extent do these assumptions stand valid – only time should tell.