Trump Crypto Report Reveals Path to Financial Crimes Compliance

The Trump administration’s highly anticipated report on digital assets, released in July, provides an array of proposals to advance Trump’s vision for the digital assets industry.

Among other things, the report has a comprehensive, detailed perspective into how the administration intends to position the US as a leader in digital assets innovation, providing dozens of recommendations for digital asset market structure, banking and digital assets, stablecoins and payments, countering illicit finance, and taxation.

Understanding that financial crimes compliance will be a pillar of the modern digital asset regulatory framework, the report’s section on countering illicit finance makes two notable recommendations that provide insight into potential changes to the US anti-money laundering regulatory framework.

The administration recognized in the report that digital assets, “like traditional assets, are subject to abuse by bad actors,” and that the US’ “financial system’s strength, size, and reliability make it a notable target, and misuse by these actors affects matters of national security.”

The US must adopt “measures to deter and combat illicit finance” to “unleash the full potential of digital assets in the United States, preserve the rights of innovators to build technologies that advance individual privacy and liberty, and stop financial crime that targets Americans,” according to the report.

Those interested in understanding how the administration intends to regulate the digital assets industry should review the full 160-page report, which includes a detailed overview of the existing framework for digital assets, as well as detailed recommendations of how Congress and regulators should modernize and adapt the framework to promote digital asset innovation.

Amending the BSA

The majority of requirements under the Bank Secrecy Act were issued before the digital asset industry emerged. As a result, financial regulators have tried applying the existing, outdated anti-money laundering compliance framework to digital assets—a challenge because the requirements that apply in a fiat-only world often aren’t suited for digital assets.

There also are critical gaps in risk mitigation coverage due to the lack of tailored anti-money laundering compliance requirements that align with how digital asset platforms and technology function.

For example, the only entities subject to regulation under the BSA are those that qualify as “financial institutions,” and most digital asset companies that are regulated under the BSA are treated as money services businesses.

Money services businesses aren’t “covered financial institutions” under the BSA’s Customer Identification Program and Customer Due Diligence Rules, which are the basis for the “know your customer” processes employed by financial institutions. Technically, at the federal level, most crypto companies aren’t subject to basic know-your-customer requirements.

However, money services businesses are subject to informal know-your-customer expectations. This is because all money services businesses must implement anti-money laundering compliance programs that include policies, procedures, and internal controls designed to assure BSA compliance, such as filing suspicious activity reports. The requirement to file these reports forces money services businesses to collect identifying information from their customers.

The report recognizes that the BSA regulatory framework doesn’t align with the digital asset industry. It recommended that Congress consider “creating a bespoke digital asset-specific financial institution types or sub-types” that would allow the Treasury Department to better tailor anti-money laundering rules “to different participants in the digital asset industry, such as exchanges, stablecoin issuers, and firms engaged in digital commodity transactions.”

Because the current money services businesses compliance framework isn’t suited for digital asset financial institutions, tailored rules that take into account the different nature of the activities and participants would be a vast improvement.

Defining DeFi Actors

The Financial Crimes Enforcement Network issued guidance in 2019 setting out the key facts and circumstances used to determine how digital asset models should be treated under the BSA.

FinCEN’s guidance stated that determining whether certain participants in the decentralized finance ecosystem qualify as money services businesses depends on the facts and circumstances of the model, which could include whether the service exerts “total independent control.”

FinCEN further stated that producing and distributing software in and of itself doesn’t automatically qualify a person or entity as a money services business, even if the software’s purpose is to facilitate the sale of digital assets.

The administration’s report noted that the guidance was instructive, but the current US anti-money laundering rules fail to “sufficiently consider truly decentralized protocols, where the governance/decision-making is distributed across communities of users, and the protocols may be immutable or otherwise technologically incapable of collecting customer information or reporting suspicious activities.”

To address this issue, the report recommended that Congress pass legislation to define what constitutes “true” decentralized protocols, determine which portions of the DeFi ecosystem should be subject to anti-money laundering compliance obligations, and construct the appropriate regulatory framework.

Like the broader recommendation to amend the BSA to include separate financial institution types relevant for the digital asset industry, the recommendation to provide additional clarity for the DeFi industry would be well received if the new framework is appropriately structured.

The previous administration launched aggressive enforcement actions against certain actors within the DeFi sector but chose not to provide much-needed regulatory clarity.

If Congress follows through with the Trump administration’s recommendations, the US will be better positioned to mitigate the financial crimes risks associated with the digital assets industry and provide a catalyst for continued growth and innovation in the industry.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law, Bloomberg Tax, and Bloomberg Government, or its owners.

Author Information

Kendall Howell is an associate at Davis Polk with experience assisting clients in national security related matters, including anti-money laundering.

Daniel P. Stipano is head of Davis Polk’s anti-money laundering and countering the financing of terrorism compliance programs.

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