Gensler To Rule On SEC Licensing Requirements For "Communication Protocols"
SEC Chair Gary Gensler expressed intent to rule on amendments to rule 3b-16 of the Exchange Act by November. Criticized as overly broad, the proposed amendments may be abused to require software publishers to obtain SEC licenses.
In remarks before the 10th annual U.S. Treasury Market Conference, SEC Chair Gary Gensler has expressed intent to rule on amendments to rule 3b-16 of the Exchange Act by November.
The amendments expand the definition of the term "exchange" to include "systems that bring together buyers and sellers of securities that offer the use of non-firm trading interest and provide another type of non-discretionary method (i.e., communication protocols). The proposed amendments would require these systems to register as national securities exchanges or as broker-dealers and comply with Regulation [Alternative Trading Systems] ATS."
The proposed amendment has received 180 comments since 2022, many of which appear to be critical of the overly broad language applied.
As the advocacy and research center CoinCenter submitted, "the proposed rule, as drafted, would not withstand constitutional scrutiny," as "the proposed definition directly describes the publication of speech as a necessary and sufficient condition for the registration requirement. Merely “making available” a “communications protocol” can, by the SEC’s own admission, trigger an obligation to register. A communications protocol is commonly understood as a set of rules. “Making available” a set of rules is an awkward linguistic construction that must, at the very least, include publishing and speaking, which are core First Amendment activities."
"By way of example", CoinCenter argues, "is Twitter’s general communications protocol a negotiation protocol when users take advantage of the dollar sign to create a “cashtag” marking stock names and ticker symbols accompanied by a price quote or trading interest?"
Criticizing the SEC's consideration of re-wording the category of "communications protocols" to "negotiation protocols", CoinCenter argues that "a dictionary contains a protocol for appropriate use of the English language (a communications protocol), but a subset of terms in that dictionary can be used by buyers and sellers of securities to interact and negotiate the terms of a trade (a negotiation protocol)."
"One might be able to publish a dictionary that includes only these terms and successfully hew narrowly to a definition of “making available a negotiation protocol”," CoinCenter adds, "but one would have great difficulty publishing a useful English dictionary that contained every term except the terms that buyers and sellers might use to negotiate a trade."
"The SEC could easily use the proposed vague standard to target certain publishers of open source software who advocate for the use of that software for certain political ends," CoinCenter concludes. "Arguably, the Commission has already displayed a pattern of behavior of using its flexible regulatory power for viewpoint discrimination against developers of cryptocurrencies and privacy protecting tools."
"As an investor, I understand the need to modernize regulations to address gaps in oversight of electronic trading systems," one anonymous commentator writes. "defining an exchange as any system with "non-firm trading interest" is excessively broad and vague. This could unintentionally encompass a wide range of communication platforms and online forums that enable discussion about transactions, but do not themselves execute trades or constitute regulated exchanges."
Regulatory uncertainty surrounding licensing requirements for software publishers have dominated questions on compliance among developers since the indictment of Tornado Cash developers Roman Storm and Roman Semenov in August 2023.
Storm and Semenov, who developed a non-custodial privacy protocol for the cryptocurrency Ethereum, are charged with conspiracy to operate an unlicensed money transmitting business, conspiracy to commit money laundering and conspiracy to violate sanctions. The pair are awaiting a jury trial in December.
During hearings on the case in July, appointed judge Failla asked whether the charges were comparable to criminally charging the creators of WhatsApp because criminals used it. "“If [Tornado Cash] has 1,000 customers and 1 is a bad actor, are they criminally liable?”
Much of the prosecution's argumentation in the Tornado Cash case leans on control of the UI as equivalent to control of Tornado Cash – an argument which appears to stem directly from FATF recommendations equating control over user interfaces as control over assets, in apparent attempts to qualify UI developers as Crypto Asset Service Providers (CASPs) to impose licensing requirements.
Similar charges have been brought against developers of the non-custodial Bitcoin privacy wallet Samourai Wallet. "These charges arise from the defendants’ development, marketing, and operation of a cryptocurrency mixer that executed over $2 billion in unlawful transactions and facilitated more than $100 million in money laundering transactions from illegal dark web markets," the DOJ stated in a press release surrounding the arrests.
Technically however, a Bitcoin coinjoin provider merely facilitates communication between a number of users sending bitcoin to themselves, critics argue. As the defense has argued, the prosecution's "aggressive" and "expansive" approach is "akin to charging Apple for cybercrimes commited with MacBooks."
Notably, a regulatory push for increased liabilities for communication protocol developers is not limited to the US.
In the EU, Telegram founder Pavel Durov has recently been charged with "laundering of the proceeds derived from organized group’s offences and crimes". While not much is known about the charges, industry experts who wish to remain anonymous have told The Rage that the charges may be less related to Telegram's issuing of the cryptocurrency TON, and rather related to the fact that criminals may have utilized Telegram Messenger to plan, coordinate, and possibly execute transactions violating AML/CTF and sanctions laws.
Alexey Pertsev, the third developer of the Tornado Cash protocol, was convicted of laundering $1.2 Billion by a Dutch court in May 2024 and sentenced to over 5 years in prison.
In written remarks, Gensler stated that "a lot [...] has changed in the capital markets" since the initial introduction of Alternative Trading Systems regulations in 1998. "The challenge in our times is to bring reforms to ensure that they are as efficient and resilient as they can be. It's critical to taxpayers, to the capital markets, to monetary policy, and the role of the dollar around the globe."
Given the evidentiary hostile environment for software developers and communications service providers today, it seems unlikely that the proposed amendments to the Exchange Act would not be abused to further crackdowns on dissenting developers if the applied language remains as broad as drafted.
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