Institutional investors, corporations, exchanges, individuals, and crypto miners all have strong demand for crypto custody services, as provided by special market participants. These services intend to safeguard customers’ crypto assets and prevent them from loss or theft. Such services are subject to various local regulations. Distinguished from traditional custodial services, crypto custody occurs through safe key management.
In the United States, the regulatory environment for digital assets is developing. Under the US Investment Advisor’s Act, investment advisors must register with the SEC and hold client funds or securities with a qualified custodian in segregated accounts. Qualified custodians include financial institutions or specialist custody providers (sub-custody). In July 2020, the Office of the Comptroller of the Currency (OCC) issued a letter stating that national banks and federal savings associations may provide cryptocurrency custody services for their customers. In 2021, for example, a large US bank launched a cryptocurrency custody service for investment managers.
In 2020, the European Union proposed a regulatory framework known as the Markets in Crypto-Assets (MiCA). This landmark law will require cryptocurrencies to meet the same transparency, licensing, compliance, and oversight as other financial products.
The bill will likely take effect in 2024, although there are concerns the rapidly evolving nature of the crypto space will result in the bill’s scope not properly addressing new crypto services.
Moreover, the UK regulates custodian services in such a way that an entity holding private cryptographic keys on behalf of its customers may be subject to custodian provider regulation.
The Israeli Market
In Israel, under the Control of Financial Services Law, management or custody of virtual currency requires a “service provided in a financial asset” license. The Israeli Capital Market, Insurance and Savings Authority is responsible for issuing such licenses and monitoring licensees. In addition, provisions of the Israeli Trust Act may apply to custodian providers.
In Case of Insolvency
The issue of whether a party is or is not a custodian may have far-reaching implications, especially in light of recent developments in the crypto space. Recently, some market actors that acted quite similarly to “crypto banks” announced the cessation of withdrawals of all crypto funds held by them due to market meltdown. For these actors, their T&Cs included some warning as to the fact some of their services would include transfer of title in the assets. This thus made these assets part of the assets available to creditors and the original owner of the assets just another unsecured creditor. Apparently, this should not affect digital assets held in pure custodian accounts. However, it is still unclear if during current insolvency proceedings these assets will be safe.
We believe trustworthy and regulated custodial services are key to the continuing development and growth of digital assets.