CFPB Releases Proposed Rule; Coinbase Win in the Third Circuit; Confirmation Hearing for Treasury Secretary

CFPB Releases Proposed Rule That Threatens DeFi

What happened?

On January 10th, the Consumer Financial Protection Bureau (CFPB) released a Notice of Proposed Interpretive Rulemaking (NPIRM) entitled, “Electronic Fund Transfers Through Accounts Established Primarily for Personal, Family, or Household Purposes Using Emerging Payment Mechanisms.” The proposed interpretive rule introduces revisions to definitions in Regulation E under the Electronic Funds Transfer Act (EFTA) to cover emerging payment mechanisms such as “virtual currency wallets,” subjecting them to the EFTA’s consumer protection requirements. EFTA, which generally applies to traditional financial intermediaries, protects consumers by creating regulatory obligations that establish rights, responsibilities, and error resolution procedures for electronic financial transactions, such as ATM withdrawals and online payments.

To fall under the EFTA framework, there must be an electronic fund transfer (EFT) involving a “financial institution” that debits or credits a consumer’s “account.” An EFT refers to any transfer of “funds” initiated electronically—via terminal, phone, computer, or magnetic tape—to authorize such transactions. Thus, the EFTA framework requires three core elements: “funds,” a “financial institution,” and an “account.”

CFPB proposes broadening the interpretation of “funds” to include digital assets like stablecoins and other fungible assets used as a medium of exchange for payment like Bitcoin. The proposed rule also broadens the definition of a “financial institution” as any entity “that issues an access device and agrees with a consumer to provide EFT services,” including “non-bank entities” that hold consumer accounts or issue access devices, which could capture self-hosted wallet providers. The CFPB’s overly-broad interpretation of “agrees with a consumer to provide EFT services” could apply to any agreement involving funds transfer without clear limitations.

EFTA section 903(2) defines “account” as a deposit, savings, or “other asset account” for personal use, but CFPB’s proposed rule attempts to extend Reg E to video game accounts and “virtual currency wallets” that can be used to buy goods and services or make person-to-person transfers.

What does this mean?

The CFPB’s proposed rule is overly broad and lacks clear limiting principles, potentially extending to self-custody wallets and imposing regulatory obligations that are both illogical and impossible for noncustodial software providers to meet. If CFPB intends to capture self-custody wallets in their proposed definitions of “account” and financial “institution,” then they are acting in excess of their statutory authority under EFTA.

Subjecting self-hosted software wallet providers to EFTA regulations, including obligations like error resolution procedures (e.g. for hacks or fraudulent transactions), is technologically impossible and would significantly harm the DeFi space. While the CFPB’s intent to protect consumers of emerging payment mechanisms is commendable, it is crucial to recognize the technological distinctions between DeFi and custodial payment providers. DEF will continue to work to protect decentralization and self-custody, and will be commenting on this proposed rule.

Coinbase Win in the Third Circuit

What happened?

Last week, the Third Circuit Court of Appeals ruled that the Securities and Exchange Commission’s (SEC) response to Coinbase’s request for rulemaking lacked adequate reasoning and was thus “arbitrary and capricious” under the Administrative Procedure Act (APA).

As a refresher, in 2022 Coinbase petitioned the SEC for rulemaking - asking the SEC to create specific regulatory rules governing digital assets and arguing that the existing securities laws and regulations are ill-suited for digital assets due to challenges like the decentralized nature of the blockchain, the non-investment utility of many digital assets, and the technical infeasibility of applying current disclosure and custody requirements. Nine months after filing its original petition, Coinbase filed a petition for a writ of mandamus (an order from a court to an inferior government official ordering the government official to properly fulfill their duties or correct an abuse of discretion) ordering the SEC to respond to its request.

The SEC denied Coinbase’s petition for rulemaking in December 2023, confining its reasoning to a single paragraph. The SEC maintained that existing securities statutes are workable for digital assets, emphasizing its discretion in setting regulatory priorities before considering any rulemaking changes. Accordingly, Coinbase challenged the SEC’s denial under the APA and requested an order requiring the SEC to initiate notice-and-comment rulemaking proceedings.

The court partially granted Coinbase’s petition, remanding the matter back to the SEC for a more thorough explanation as to why it declined to do rulemaking, but the court stopped short of compelling the agency to initiate any rulemaking. In the court’s words, "[b]ecause we believe the SEC’s order was conclusory and insufficiently reasoned, and thus arbitrary and capricious, we grant Coinbase’s petition in part and remand to the SEC for a more complete explanation. But we decline at this stage to order the agency to institute rulemaking proceedings.”

What does this mean?

By remanding the case, the court effectively requires the SEC to provide a more clear and comprehensive justification for its refusal to initiate specific rulemaking for digital assets. However, this ruling only offers a partial victory because the court did not order the SEC to do rulemaking. Unfortunately, there is no guarantee that the SEC will change its stance or initiate rulemaking to provide regulatory clarity for the crypto industry.

Senate Finance Committee Holds Confirmation Hearing for Treasury Secretary

What happened?

Last week, the Senate held a series of confirmation hearings on key federal government posts, including the Treasury Secretary. The Senate Committee on Finance held a confirmation hearing on the nomination of pro-crypto Scott Bessent to serve as head of the Treasury.

Ahead of Secretary-designate Bessent’s confirmation hearing, Senator Elizabeth Warren (D-MA) sent a letter to Bessent in which she made several misrepresentations about the role of cryptocurrency in illicit financial activities, making erroneous claims about its rising use by bad actors for money laundering, sanctions evasion, and funding national security threats. Then, citing a Treasury Department report, Warren highlighted concerning legislative proposals such as amending the Bank Secrecy Act (BSA) to include a new crypto-related category of “financial institution” that would include crypto exchanges, unhosted wallets, decentralized finance (DeFi), and validators on the blockchain. DEF and several members of the crypto community fact-checked several of Senator Warren’s claims in threads on X. And, as DEF concluded in our policy paper on the BSA, noncustodial software providers should not and cannot be subject to the BSA framework as they do not exercise “total independent control” over user assets.

During the hearing, Senator Marsha Blackburn (R-TN) raised concerns related to the exploration of an American Central Bank Digital Currency (CBDC), drawing comparisons to China’s digital yuan. In response, Bessent stated, “I see no reason for the U.S. to have a central bank digital currency,” asserting that such currencies are suited for countries lacking investment alternatives. Separately, Senator Ben Ray Luján (D-NM) questioned Bessent on providing more transparency over BSA Suspicious Activity Reports (SARs) at Treasury’s Financial Crimes Enforcement Network (FinCEN). Bessent responded, “I believe……there is a sleeve of the Treasury called TFI (Terrorism and Financial Intelligence) that deals with this within FinCEN. I believe that we have to have a 2025 approach, as you and I talked about, [when it comes] to digital currencies in all branches of government.”

What does this mean?

The Senate Committee on Finance will now schedule a vote to officially confirm Secretary-Designate Bessent, who is poised to become the most pro-crypto Secretary of the Treasury thus far. While Bessent is generally supportive of crypto, contentious and unresolved issues remain, including uncertainties around the application of the BSA and the IRS’s “Broker” Rulemaking, both of which pose existential threats to the future of DeFi.

DEF also provided an update on our Funding. To learn more, please click on the link.