New York financial regulator targets companies that mix cryptocurrencies

Jan 23 (Reuters) – New York’s top financial regulator is to issue new guidance on Monday requiring firms to separate clients’ crypto assets from their own, after the alleged commingling of funds at cryptocurrency exchange FTX and its investment firm Alameda Research affiliate trading has led to billions of dollars in losses for clients.

The New York State Department of Financial Services (NYDFS), which leads one of the few state agencies with a regulatory system in place for cryptocurrency firms, will also mandate that state-regulated firms disclose to customers how they account for digital currency of customers.

The guidance is the latest in a series of cryptocurrency-related directives the NYDFS issued last year, which saw a market crash that wiped an estimated $1.3 trillion off the value of crypto tokens in 2022 and triggered the bankruptcies of crypto firms such as FTX, Celsius Network and most recently Genesis Global Capital, whose lending unit filed for bankruptcy protection in the US on Thursday.

It comes as federal regulators like the US Commodity Futures Trading Commission (CFTC) warn of a lack of consumer protections in the cryptocurrency industry. Federal agencies like the CFTC say much of what they can do is limited without congressional legislation that would give them additional authority.

“It’s timely, but truth be told, it was something we had in our policy roadmap even before FTX,” NYDFS superintendent Adrienne Harris said in an interview.

Federal prosecutors in Manhattan have charged FTX founder Sam Bankman-Fried with stealing billions of dollars in client funds to cover losses at his hedge fund, Alameda Research. Concerns over the crossover between the two companies helped fuel a flurry of customer withdrawals in November, forcing the exchange to file for bankruptcy. Bankman-Fried denied any wrongdoing and pleaded not guilty.

Harris, who was confirmed as superintendent last year and is a former senior advisor at the U.S. Department of the Treasury, spent much of her first year in the role reinforcing her agency’s cryptocurrency focus. She says NYDFS’s virtual currency unit has nearly 50 employees and is working to hire more.

New York requires businesses to undergo reviews to ensure they meet state requirements and comply with customer knowledge, anti-money laundering and capital requirements. Most other states do not screen crypto firms.

“While I would never be rash enough to say that no New Yorker will be harmed in any of this, I think it is very fair to say that New Yorkers are better off than anyone else in the country because of the structure that we have,” Harris said.

However, last year’s cryptocurrency crashes still affected residents of the state.

New York Attorney General Letitia James earlier this month sued Celsius Network founder Alex Mashinsky, claiming he defrauded investors of billions of dollars in digital currency by hiding the ill health of his cryptocurrency lending platform now bankrupt.

James said Mashinsky’s alleged fraud went on from 2018 to June 2022, when deposits were frozen, with more than 26,000 New Yorkers among its victims. A lawyer for Mashinsky has denied the allegations. NYDFS did not immediately respond to a request for comment on the Celsius lawsuit.

Cryptocurrency exchange Gemini, which has a limited-purpose trust card in New York and is licensed to serve New York residents, had partnered with now bankrupt Genesis Global Capital to offer a crypto yield product and has prevented customers from accessing those accounts when Genesis suspended customer withdrawals in November. Gemini says it’s owed $900 million by Genesis.

Harris says he recognizes there is more his office can do and says his agency is working on additional guidelines on stablecoins, cryptocurrency advertising and disclosure, and consumer protection.

Crypto firms’ compliance with anti-money laundering rules has also been “a big issue,” he said, on which he expects his office will continue to focus in 2023.

Earlier this month, NYDFS announced a $100 million settlement with Coinbase Inc (COIN.O) for the company to comply with rules to prevent money laundering. This followed a $30 million fine the department imposed on the crypto arm of Robinhood Markets Inc (HOOD.O) for alleged violations of anti-money laundering, cybersecurity and consumer protection laws.

“We’ve really worked hard, not just through the application, but through the scrutiny, and just in our conversations with the industry to say this is non-negotiable,” Harris said.

Hannah Lang reporting to Washington; Editing by Ira Iosebashvili and Diane Craft

Our standards: the Thomson Reuters Trust Principles.

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