SEC Rules Are Preventing Major Banks From Offering Crypto Custody Services – Here's How

The market capitalization of the virtual currency industry has surpassed the $1 trillion mark. Still, leading U.S. banks are barred from getting any skin in the game by the country’s securities watchdog.

Stiff rules from the U.S. Securities and Exchange Commission (SEC) have continued to affect the ability of top banks in the country to offer crypto custody services. According to Matt Walsh, an executive at Castle Island Venture Capital, the chief stumbling block against banks offering custodial services lies with the SEC’s Staff Accounting Bulletin No. 121 (SAB 121).

Published in 2022, SAB provides that financial institutions offering digital asset custody services are required to include the asset on their balance sheets. This poses several challenges for banks looking to roll out custodial services, the most significant being an increased capital charge on the digital assets on the balance sheet.

“It is already well established that SAB 121-compliant banks cannot scale the digital asset custody offerings due to knock-on capital costs associated with putting custodied digital assets on their balance sheets,” said Anchorage Digital. 

Investment banking giant BNY Mellon has seen its planned digital asset custody service come to a grinding halt in the wake of the SAB 121, noting that the rule makes the service unprofitable. The bank has made several calls to the SEC to exempt bank-qualified custodians from balance sheet requirements relating to virtual currency custody.

“Having credible custodians (+self custody) are the solutions to relying on failed companies like FTX,” wrote Walsh. “Policymakers and regulators in the USA should be welcoming these regulated firms – not standing in their way.”

U.S. lawmakers have waded into the fray with Congressman Patrick McHenry and Senator Cynthia Lummis quizzing the SEC on the viability of the SAB 121. U.S. lawmaker Mike Flood probed the Gensler-led SEC on the SAB 121’s disparity with existing rules from the Office of The Comptroller of Currency (OCC).

“It is my belief that SAB 121 creates greater regulatory ambiguity, runs counter to longstanding practice regarding the custody of assets, and goes beyond the appropriate scope of a staff accounting bulletin,” wrote Flood in a letter to Gensler.

SEC says it is protecting investors from risk

According to the SEC, the rationale for the SAB 121 is to protect investors from the risks associated with digital assets. The securities watchdog warned that virtual currencies face the risks of being stolen, misplaced, or may be tied up in bankruptcy matters to the detriment of investors.

While several pundits have stated that the SEC’s stance is “wrong,” the agency has extended the same reason in rejecting the applications of a spot Bitcoin exchange-traded fund (ETF). The SEC’s crusade has seen it pitch battles against several market participants like Ripple Labs, Coinbase, and Binance, bordering on unregistered securities.

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