The Securities and Exchange Commission seems to have gotten the message: Staff Accounting Bulletin 121, which created accounting obligations for companies to safeguard crypto assets for platform users, was a bad rule and needed to be changed.
After years of seemingly waging a campaign to fit the entire crypto industry into a one-size-fits-all box as equivalents to equity instruments, the SEC has turned a corner. It will grant exemptions and workarounds to large traditional finance institutions to circumvent some of the onerous SAB 121 reporting and compliance requirements.
It’s the latest indication that a change in regulatory attitude and action is underway. Whether this change is driven by internal policy or a combination of internal reflection and external pressure is up for debate. But the outcome is the same.
The crypto industry and its advisers should welcome the SEC’s recent flexibility with relief, after years of regulatory frustration, rulemaking through the court system, numerous lawsuits and enforcement actions. Turnover at the SEC’s enforcement division overseeing crypto, and several high-profile setbacks in the courts, might have played a role in this recent change in attitude.
SAB 121, published in 2022, was unpopular from the moment crypto organizations and banking institutions understood its implications. Without parsing the minutia of the rule itself, the effect was chilling. Any financial institutions that sought to have crypto assets for clients in a custodial arrangement would have to disclose a corresponding liability, on balance sheet, as well as additional disclosures around the risks of holding crypto assets.
Both the crypto and banking lobbies considered SAB 121 to be an overreach. It was repudiated with bipartisan support by both chambers of Congress, surviving only by a White House veto.
Given the controversy around this measure, the fact that SEC has announced workarounds is worth taking a deeper dive.
Primary Conditions
Institutions seeking to circumvent SAB 121 must meet several conditions. They must have policies to safeguard and protect customer assets in case of bankruptcy. They must establish internal controls to safeguard those same customer assets in the case of bank failure. And they must actively address legal risks related to the digital asset class.
Developing crypto-specific controls and controls, as well as proactively monitoring the legal landscape, seem like reasonable measures.
Eliminating the obligation to show liabilities for every customer asset is a major relief for bank institutions that otherwise would trigger capital requirements under banking regulations, but the SEC still wants substantive controls and disclosure.
Affected Parties
The newly announced measures will impact some of the largest US traditional financial institutions, especially banks that have to date been limited as to how much involvement they can have in the crypto asset sector.
The approval of bitcoin spot exchange-traded funds and the looming potential for ether ETFs have driven the recent run-up in bitcoin prices, and positive sentiment for crypto overall. Asset managers have issued and managed these products. However, banking institutions have been working to obtain market share in what has become a large and lucrative slice of financial markets.
Since these efforts have been spearheaded by the banking lobby and banking institutions since 2023, it should come as no surprise that the modified reporting and compliance requirements are most amendable to banks seeking to offer custodial and other related crypto services.
Advisory Role
The world following the collapse of large crypto exchange FTX has been a difficult one for tax and accounting professionals who want to be advisers in the broader tokenized asset space. Accounting and tax firms have either pulled back from the sector altogether or have stuck to offering a limited scope of services.
A large part of that was due to the regulatory morass that crypto has been stuck in, as well as the sluggish pace of accounting and auditing standard setters to produce crypto-specific standards. To date, only a single accounting standard has been issued, and no formalized crypto-specific audit guidance has come to market. These facts remain unchanged, even in the face of the exemptions put forward by the SEC, but positive developments are happening.
Advisers will start finding it easier to help clients as traditional financial institutions grow more comfortable with crypto and other tokenized assets, as rules become more amendable to running a business versus compliance-via-edict, and as policymakers take productive steps toward effective and reasonable regulation.
Given that the SEC’s new exemptions to SAB 121 focus on the financial sector, the direct implications will remain focused there. But as financial services firms gain confidence, other industries (and customers) will continue deploying crypto and other tokenized offerings. These exemptions aren’t a universal cure-all for crypto reporting and compliance issues, but they are a step in the right direction.
As these exemptions take effect, advisers can—and already are—assisting client firms by focusing on the fundamentals of the crypto product in question; developing unique and specific crypto controls; and highlighting the importance of clear, concise, and consistent communication.
SAB 121 was a cumbersome and complex rule seemingly written with the intent to stifle crypto proliferation. Establishing exemptions and SEC-approved ways around the most onerous components of the rule is good news for crypto and crypto advisers.
This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.
Author Information
Sean Stein Smith is an associate professor at Lehman College (CUNY), serves on the advisory board of the Wall Street Blockchain Alliance, and chairs its accounting working group.
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