On June 7, Senator Cynthia Lummis (R-WY) and Senator Kirsten Gillibrand (D-NY) unveiled the long-awaited 69-page draft of the Lummis-Gillibrand Responsible Financial Innovation Act (“Act”). The Act is meant to create a regulatory framework for digital assets, pioneer legal reform and regulation across various regulatory entities, and update current laws with language regarding digital assets. All cryptocurrency industry participants should consider the following 10 key points of the Act.
1. Attempts to create a standard for determining which digital assets are commodities and which are securities
The Act helps classify digital assets as securities or commodities. The Act makes this determination by analyzing the purpose of the asset and the rights and powers the asset conveys to the consumer, which will help provide digital asset companies with the ability to determine their regulatory obligations.
2. CFTC gains regulatory authority over digital asset spot markets
The Act vests the Commodity Futures Trading Commission (CFTC) with regulatory authority over digital asset spot markets based on the drafters’ understanding that most digital assets are similar to commodities than securities. This means digital assets that meet the definition of a commodity, such as bitcoin and ether, will be regulated by the CFTC if the Act becomes law.
3. Applies to a wide variety of crypto industry participants
The Act applies to corporations, businesses, crypto-brokers, and any other entities that hold licenses issued by various governmental bodies to engage in transactions involving the use, transfer, and/or issuance of digital and virtual assets, smart contracts, etc. Examples of such may include cryptocurrency exchanges such as Gemini, Binance, Kraken, etc. Unincorporated decentralized autonomous organizations (DAO), digital asset users, and decentralized finance (DeFi) protocols are not explicitly articulated and/or governed by this Bill. However, the Act’s catch-all language suggests DeFi protocols and DAO’s could be roped in later, as the Act is applicable to persons or entities “required by law to hold such a license, registration or similar authorization.”
4. Formal definitions
The Act (Section 9801 of title 31 United States Code) attempts to provide helpful, formal definitions for “digital assets,” “digital asset intermediary,” “smart contracts,” “payment stable coin,” “virtual currency,” and various other customary terms in the cryptocurrency industry.
a. Specifically and as a cursory overview, a “digital asset” is “a natively electronic asset,” that “confers economic, proprietary, or access rights or powers; and is recorded using cryptographically secured distributed ledger technology, or any similar analogue” including “virtual currency and ancillary assets, consistent with section 2(c)(2)(F) of 11 the Commodity Exchange Act,” “payment stablecoins, consistent with section 403 of the Legal Certainty 13 for Bank Products Act of 2000 (7 U.S.C. 27a),” and “other securities and commodities, subject to subparagraph A.”
b. A “digital asset intermediary,” in relevant part, is “a person who holds a license, registration, or other similar authorization” under “the Commodity Exchange Act,” “Securities Exchange Act of 1934,” and others “that may conduct market activities relating in digital assets” and stablecoins.
c. A “payment stablecoin” means a digital asset that is “redeemable, on demand, on a one-to-one basis for instruments denominated in United States dollars and defined as legal tender,” “issued by a business entity,” “accompanied by a statement from the issuer that the asset is redeemable from the issuer or another identified person,” “backed by one or more financial assets (excluding other digital assets),” and “intended to be used as a medium of exchange.”
d. The Act defines a “smart contract” as “computer code deployed to a distributed ledger technology network that executes an instruction based on the occurrence or nonoccurrence of specified conditions;” or “any similar analogue;” and “may include taking possession or control of a digital asset and transferring the asset or issuing executable instructions for these actions.”
e. “Virtual currency” is defined as a “digital asset” that “is used primarily as a medium of exchange, unit of account, store of value, or any combination of such functions,” “is not legal tender,” “does not derive value from or is backed by an underlying financial asset (except other digital assets),” and “includes a digital asset…that is accompanied by a statement from the issuer that a denominated or pegged value will be maintained and be available upon redemption from the issuer or other identified person, based solely on a smart contract.”
5. Consumer protections for stablecoin issuers
The Act requires all payment stablecoin issuers to have a 100% reserve as well as detailed disclosures about the assets backing the stablecoin. Issuers must also ensure that holders may redeem stablecoins at a 1:1 ratio in recognized legal tender.
6. Contemplates the national security implications of cryptocurrency
For example, the Act explicitly references the “digital yuan,” which is the “official central bank digital currency of the People’s Republic of China,” and instructs that “Not later than 60 days after the date of enactment of this Act, the Director of the Office of Management and Budget, in consultation with the Administrator of General Services, the Director of the Cybersecurity and Infrastructure Security Agency, the Director of National Intelligence, and the Secretary of Defense” to “develop standards and guidelines for executive agencies which require adequate security measures for use of the digital yuan on government information technology devices.”
7. Uniform laws for states
The Act mandates and directs state banking and regulatory supervisors to adopt uniform money transmitter license requirements for transactions involving digital assets within two years.
8. Broker definition expands
The Act amends Section 6045(c)(1)(D) of the Internal Revenue 22 Code of 1986 to define a “broker” as “any person who (for consideration) stands ready in the ordinary course of a trade or business to effect sales of digital assets at the direction of their customers.”
9. Important tax implications
The Act excludes from gross income for federal income tax purposes gains or losses from the disposition of virtual currency in a personal transaction “for the purchase of goods or services,” provided the gain or loss “shall not exceed $200.” However, this exclusion does not apply to disposition of virtual currency for other securities, fiat currency, digital assets, securities, commodities, or cryptocurrencies, whether they result in a gain or loss.
10. Energy consumption to be studied
Finally, the Act directs the Federal Energy Regulatory Commission (FERC) to analyze and report on energy consumption in the digital asset space. Certain types of virtual currency mining have recently been under scrutiny for being too energy intensive. The FERC will determine the best ways to leverage mining technology in hopes that the U.S. can meet its climate and clean energy goals.
The Act aims to provide some a regulatory framework to the largely unregulated crypto industry. The Act seeks to divide digital assets based on their intended purpose, with most under CFTC’s regulatory authority. Digital assets that are deemed securities would not be digital assets at all, and instead would be subject to the SEC’s authority. If enacted into law, will the Act further mainstream adoption of crypto, or could it regulate the fledgling industry out of existence? Only time will tell.