The CFTC’s recent enforcement against Bitfinex’s financed trading activities demonstrates the Commission’s increasing interest in virtual currency and digital assets.

The U.S. Commodity Futures Trading Commission (CFTC) is further expanding its oversight of virtual currency exchanges and digital assets in general. On June 2, 2016, Bitfinex (a Hong Kong-based bitcoin and cryptocurrency exchange) settled with the CFTC following an investigation into its trading activities. The CFTC charged that the exchange offered illegal off-exchange financed retail commodity transactions, and that Bitfinex had failed to register as a Futures Commission Merchant (FCM) as required by law. As a result, Bitfinex will pay $75,000 in civil penalties.

This action is more evidence of the CFTC’s interest in not only bitcoins, but any digital asset that can be considered a commodity. Transactions in decentralized digital tokens (such as Ether, DAO Tokens, Safecoins, Factoids, and Bitcrystals) are becoming more common, and so is regulatory interest.

CFTC has classified bitcoin as a commodity

The CFTC noted that under Dodd-Frank, financial commodity transactions must be conducted on an exchange unless the entity offering the transactions can establish that actual delivery of the commodity occurred within 28 days. “Actual delivery” of any commodity requires a transfer of “possession and control” of the commodity that provides a “real and immediate possession to the buyer or the buyer’s agent.” The CFTC has classified bitcoin and digital currencies as commodities under the Commodity Exchange Act.

According to the CFTC, “[f]rom April 2013 to at least February 2016, Bitfinex permitted users to borrow funds from other users on the platform in order to trade bitcoins on a leveraged, margined, or financed basis.” However, “Bitfinex did not actually deliver those bitcoins to the traders who had purchased them,” and instead “held the bitcoins in deposit wallets that it owned and controlled.” The touchstone of CFTC’s allegations is Bitfinex’s retention—for over 28 days—of users’ bitcoins in addresses to which the users did not know the private keys.

Bitfinex failed to register as a Futures Commission Merchant

The CFTC also found that Bitfinex failed to register as a Futures Commission Merchant (FCM). An FCM is an entity that is authorized to sell or accept money for financial products related to futures contracts, retail off-exchange forex contracts, or swaps. The Commodity Exchange Act requires all FCMs to register before accepting orders and receiving funds in connection with retail commodity transactions.

Bitfinex did not register before offering this type of service, and was therefore found to be in violation of the Act.

Implications

Platforms for digital asset transactions are not only under FinCEN scrutiny for money services and SEC scrutiny for securities, but also increasingly under CFTC scrutiny for financed transactions. A complex, overlapping regulatory framework is developing around digital currencies and digital assets under federal law. Given an already uneven set of state regulations, assessing risk for existing products and new features is critical to avoiding fines, public censure and criminal penalties.