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NYDFS Issues Guidance to Virtual Currency Custodians on Protection of Customer Funds
Practical Law Legal Update w-038-2879 (Approx. 5 pages)
NYDFS Issues Guidance to Virtual Currency Custodians on Protection of Customer Funds
by Practical Law Finance
| Published on 24 Jan 2023 • USA (National/Federal) |
The New York Department of Financial Services (NYDFS) issued guidance to virtual currency entities (VCEs), including state BitLicensees and limited purpose trust companies, on best practices for custodial protection of customer funds.
On January 23, 2023, the New York Department of Financial Services (NYDFS) issued guidance to virtual currency entities (VCEs) on custodial protection of customer funds. According to the guidance, VCEs include the following entities engaging in virtual currency (VC) business activity, including custody services:
- "BitLicensees," which are entities licensed under 23 NYCRR Part 200.
- Entities chartered as limited purpose trust companies under the New York Banking Law.
The guidance is designed to clarify standards and practices that will help ensure that VCE custodians are providing a high level of customer protection with respect to asset custody under the NYDFS BitLicense framework (see Practice Note, NYDFS Virtual Currency BitLicense Framework: Overview).
The guidance sets out the following requirements for VCE protection of customer funds:
- Customer virtual currency should be maintained in either:
- separate on-chain (meaning on the blockchain) wallets and internal ledger accounts for each customer under that customer's name; or
- one or more omnibus on-chain wallets and internal ledger accounts that contain only VC of customers held under the VCE custodian's name as agent or trustee for the benefit of those customers.
- A VCE custodian should treat customer VC in its possession or control as belonging solely to customers and not employ customer VC for the VCE custodian's own use.
- A VCE custodian may elect to arrange for the safekeeping of customer VC through a sub-custody arrangement with a third party only after appropriate due diligence and with NYDFS approval. To grant this approval, NYDFS expects to receive the following for review at a minimum:
- the applicable risk assessment performed by the VCE custodian;
- the proposed service agreement(s) between the parties; and
- the VCE custodian's updated policies and procedures reflecting the processes and controls to be implemented around the proposed arrangement.
- A VCE custodian is expected to:
- clearly disclose to each customer in writing the general terms and conditions associated with its products, services, and activities; and
- obtain acknowledgement of receipt of such disclosure prior to entering into an initial transaction with the customer, consistent with the guidance.
The guidance applies to entities NYDFS has licensed or chartered to custody, or temporarily hold, store, or maintain VC assets on behalf of their customers.