On August 14, 2024, FINRA published an update (the “Update”) on its ongoing efforts to engage with its members related to crypto asset activities. The Update describes “crypto assets” as assets that are issued or transferred using distributed ledger or blockchain technology. They include, but are not limited to, so-called virtual currencies, coins, and tokens. A particular crypto asset may or may not meet the definition of a “security” under the federal securities laws.

As noted by FINRA, member firms’ crypto asset-related activities raise “challenges with various FINRA rules,” resulting in a host of potential rule violations. The following summarizes the Update.

For several years, FINRA has engaged with member firms in an effort to understand the extent to which they and their associated persons as well as their affiliates are involved in crypto asset-related activities. This includes the issuance of Regulatory Notices, repeatedly encouraging member firms to inform FINRA if they or their associated persons, or their affiliates, engage in, or intend to engage in, activities related to crypto assets (seeFINRA Regulatory Notices 18-20, 19-24, 20-23, and 21-25). FINRA’s most recent effort was the issuance in 2023 of a crypto asset questionnaire to approximately 600 member firms.

According to FINRA, among the member firms with crypto asset activities and touch points, more than one third are involved in retail brokerage (36%). The next largest groupings are member firms involved in trading and execution (21%), followed by capital markets (20%). The following activities are performed by member firms: acting as placement agents, wholesalers, or distributors of private placements of crypto assets or companies involved in crypto asset activities; operating alternative trading systems to facilitate trading in crypto asset securities; facilitating customer crypto asset trading and custody services through affiliates or third parties; engaging in distributed ledger technology initiatives or test cases to enable transactions executed or executed and settled on permissioned blockchains; and introducing institutional customers to third-party crypto asset custodians as well as crypto asset-related investment banking and advisory services for companies in crypto asset-related activities.

FINRA also identified member firms (or their parent companies or affiliates) with strategic partnerships or arrangements with companies engaged in crypto asset-related activities, including with respect to providing access to crypto asset trading and custodial services, creating training and educational materials, and utilizing distributed ledger technology for certain types of transactions (e.g., repurchase and reverse repurchase transactions). Parent or affiliate companies of member firms are engaged in a broad variety of activities across multiple disciplines as outlined in the Update.

FINRA provided a non-exhaustive list of certain potential violations involving crypto asset-related activities that FINRA has observed in its regulatory programs, including the following examples:

• Misrepresentations of the extent to which the federal securities laws or FINRA rules apply to crypto asset-related activities (FINRA Rule 2210);
• Failures to complete reasonable due diligence on crypto asset private placements and failures to engage in effective supervision designed to monitor crypto asset activities (FINRA Rule 3110);
• Failures related to the disclosure of crypto asset outside business activities (“OBAs”) and the approval and supervision of private securities transactions (“PSTs”) (FINRA Rules 3270, 3280 and 3110);
• Failures to establish AML programs reasonably designed to detect and cause the reporting of suspicious transactions in crypto assets conducted or attempted by, at or through the broker-dealer (FINRA Rule 3310);
• Failures by associated persons to provide records on crypto asset-related OBAs and PSTs (FINRA Rule 8210); and
• Findings of FINRA Rule 2010 (Standards of Commercial Honor and Principles of Trade) violations related to, for example, a member firm and associated person negligently causing the dissemination of promotional materials that the member firm or associated person should have known contained material misstatements and omitting material facts related to the member firm’s crypto asset business.

With respect to market surveillance, FINRA has identified potential situations in which individuals seek to take advantage of investor interest in crypto assets and blockchain technology to perpetrate pump-and-dump schemes and other forms of market abuse in the equity markets. FINRA has also noted potential market abuse involving crypto asset securities traded on registered ATSs.

Additional compliance risks and considerations were identified by FINRA in the Crypto Asset Developments section of the 2024 FINRA Annual Regulatory Oversight Report.

FINRA member firms should monitor and assess the extent of their (and their associated persons’ and affiliates’) crypto asset activities, and review the reasonableness of their compliance policies and supervisory procedures in relevant areas. Firms also should expect continued scrutiny and updates from FINRA in response to developments related to crypto assets.

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