The Commodity Futures Trading Commission’s (“CFTC”) Final Interpretive Guidance on the “actual delivery” exception to regulatory jurisdiction for digital assets became effective June 24, 2020. See 85 Fed. Reg. 37734. The CFTC unanimously adopted the Guidance in March: Retail Commodity Transactions Involving Certain Digital Assets, Rel. 8139-20 (Mar. 23, 2020).
The Final Guidance adopts the 2017 Proposed Interpretation with some minor changes. The “actual delivery” exception to CFTC regulatory jurisdiction still requires unencumbered physical delivery, but the changes will allow offeror-affiliated depositories, so long as they are:
“(i) a “financial institution” as defined by CEA section 1a(21);
(ii) a separate line of business from the offeror not subject to the offeror’s control;
(iii) a separate legal entity from the offeror and any offeror execution venue;
(iv) predominantly operated for the purpose of providing custodial services, including for virtual currency and other digital assets;
(v) appropriately licensed to conduct such custodial activity in the jurisdiction of the customer;
(vi) offering the ability for the customer to utilize and engage in cold storage of the virtual currency; and
(vii) contractually authorized by the customer to act as its agent.”
Re. 8139-20 at pp. 16-21.
Background.
The 2011 Dodd-Frank Act amended the CFTC’s jurisdiction to authorize regulation of
- “retail commodity transactions offered ‘on a leveraged or margined basis, or financed by the offeror, the counterparty, or a person acting in concert with the offeror or counterparty on a similar basis.’ Dodd-Frank [Publ. L. No. 111-203] § 742, 124 Stat. [1376] at 1732-33 (codified at 7 U.S.C. § 2(c)(2)(D)[(i)]).”
CFTC v. Hunter Wise Commodities, LLC, 749 F. 3d 967, 970 (11th Cir. 2014). But that expanded jurisdiction is subject to an exception for
- “a contract of sale that results in actual delivery within 28 days or such other longer period as the Commission may determine by rule or regulation based upon the typical commercial practice in cash or spot markets for the commodity involved.”
7 U.S.C. § 2(c)(2)(D)(ii)(III)(aa).
In a series of 2015 decisions, the CFTC determined that virtual currency is a commodity subject to its jurisdiction. In its 2016 settled Bitfinex enforcement action, the CFTC took the position that an unregistered platform administering and providing margin trading contracts in crypto-currencies to non-eligible (“retail”) users violated the provisions of the Commodities Exchange Act (“CEA”), In the Matter of BFXNA, Inc. d/b/a Bitfinex, No. 16-19 (CFTC Jun 2, 2016), where Bitfinex:
- controlled the keys to the customer and escrow wallets involved in the margin lending.
- used book-entry delivery, instead of actual delivery is required as between buyer and seller:
- “[P]hysical delivery of the entire quantity of the commodity, including the portion purchased using leverage, margin, or financing, into the possession of the buyer, or a depository other than the seller, the seller’s parent company, partners, agents, and affiliates will satisfy the actual delivery exception, provided that the purported delivery is not a sham.” Id. at 5.
- controlled the Omnibus Settlement Wallet; Bitfinex later changed its platform to settle through third-party multi-signature wallets, but still retained control of those keys, too (plus the Financing Recipients had no contractual relationship with the third-party wallet providers).
- could force-liquidate the contracts, thus retained control. Id. at 6.
Proposed Interpretation.
After Bitfinex, the CFTC issued its Proposed Interpretation on “Retail Commodity Transactions Involving Virtual Currency.” Proposed Interpretation, 82 Fed. Reg. 60335 (CFTC Dec. 20, 2017). Under that Proposed Interpretation, the CFTC will assert regulatory jurisdiction over any “entity or platform [that] offers margin trading or otherwise facilitates the use of margin, leverage or financing arrangements for their retail market participants….” Id. at 60337 & n. 41.
The “Actual delivery” exception to that jurisdiction requires taking “possession and control of the entire quantity” of the virtual currency, with the “ability to use it freely in commerce” and the offeror/seller may not retain any control at the end of Day 28. Id. at 60339. Distinguishing the entirely contractually-oriented analyses of prior Zelener precedents, the CFTC intends to take a “functional approach” on facts and circumstances. Id. at 60339. The factors to be considered include ownership; possession; title; physical location (before and after execution of the contract, including all documents); the nature of the parties’ relationship; and the manner in which transaction is recorded and completed. Id. at 60337 & n. 28.
The CFTC indicates that “actual delivery” will require “transfer of title and possession of the commodity to the purchaser or a depository acting on the purchaser’s behalf.” Id. at 60337 (emphasis added). And notes that “certain instances where a purchase is … ‘otherwise netted with another transaction’ do[es] not constitute actual delivery.” Id. at 60337 & n. 31. Under the Proposed Interpretation, actual delivery requires:
(1) The “customer having the ability to: (i) Take possession and control of the entire quantity of the commodity…, and (ii) use it freely in commerce (both within and away from any particular platform) no later than 28 days…”; and
(2) “The offeror and counterparty seller … not retaining any interest in or control over any of the commodity at the expiration of 28 days.”
Id. at 60339 (emphasis added).
The Proposed Interpretation provides four non-exclusive illustrative examples:
- Example 1 finds actual delivery met by an on-chain record of a transaction transferring a Token from a seller’s to a buyer’s wallet, with no retained seller interest, and transfer of title. Id. at 60340.
- Example 2 finds actual delivery achieved by counterparty delivery within 28 days to a depository (including a wallet or other) and transfer of title, whereby “the purchaser has secured full control over the virtual currency (i.e., the ability to immediately remove the full amount of purchased commodity from the depository) and no liens or retained interest….” Id. at 60340 (emphasis added).
- Example 3 does not recognize actual delivery through mere book-entry transactions. Id. at 60340.
- Example 4 provides there is no actual delivery if within 28 days the transaction is offset or netted or settled in a different medium of exchange. Id. at 60340. But the 2013 Interpretation (actually adopted) provides that where there is evidence (beyond the four corners of the contract) of actual delivery, offset or netting is permissible and does not vitiate actual delivery. 78 Fed. Reg. 52426, at 52429 (CFTC Aug. 23, 2013).
Final Interpretation.
The Final Interpretation adopted the Proposed Interpretation almost entirely. Rather than requiring total independence of any depository, the Final allows offeror-affiliated depositories, so long as they are separate licensed financial institutions contractually approved as a customer’s agent. The Final also tweaked the illustrative examples:
- Example 1 still approves of actual unencumbered physical delivery to a customer.
- Example 2 still approves of actual unencumbered to a wholly-independent depository.
- Example 3 is new and allows the use of an offeror-affiliated depository, if “separate, independent, [and] appropriately licensed.”
- Example 4 still disallows mere book-entry settlement.
- Example 5 still disallows offsetting or netting through mere cash delivery.
I discussed the Proposed Interpretation and related issues in Some Legal Issues Surrounding Blockchain and Cryptocurrency: Parts 5-7 (Sept. 2018), here.
The CFTC’s Final Interpretive Guidance, Rel. 8139-20 (Mar. 23, 2020) is here.
[View source.]
