CFTC v. McDonnell, et al.: Federal Judge Rules Virtual Currency Is a Commodity Subject to CFTC Oversight | Practical Law

CFTC v. McDonnell, et al.: Federal Judge Rules Virtual Currency Is a Commodity Subject to CFTC Oversight | Practical Law

A federal judge ruled that the CFTC has concurrent authority with other state and federal administrative agencies and courts over dealings in virtual currency.

CFTC v. McDonnell, et al.: Federal Judge Rules Virtual Currency Is a Commodity Subject to CFTC Oversight

by Practical Law Finance
Published on 13 Mar 2018 • USA (National/Federal)
A federal judge ruled that the CFTC has concurrent authority with other state and federal administrative agencies and courts over dealings in virtual currency.
On March 6, 2018, Judge Jack B. Weinstein, Senior United States District Judge of the Eastern District of New York issued a memorandum and ruling in Commodity Futures Trading Commission v. Patrick K. McDonnell and CabbageTech Corp. d/b/a Coin Drop (287 F. Supp. 3d 213 (E.D.N.Y. 2018)), that the CFTC has concurrent authority, along with other state and federal administrative agencies and courts, over dealings in virtual currencies. According to Judge Weinstein, this authority will remain in effect until Congress clarifies jurisdiction on this matter.
The CFTC sued Coin Drop Markets for violation of Commodity Exchange Act (CEA), 7 U.S.C. Section 1 seeking injunctive relief, monetary penalties, and restitution of funds, alleging that Coin Drop:
  • Operated a deceptive and fraudulent virtual currency scheme.
  • Purported to offer advice for virtual currency purchases and trading.
  • Purchased and traded in virtual currency.
  • Misappropriated investor funds.
Coin Drop challenged the CFTC's standing to bring the action against it.
According to Judge Weinstein, two questions were presented to determine whether the CFTC had standing in this matter:
  • Whether virtual currency may be regulated by the CFTC as a commodity.
  • Whether the amendments to the CEA under the Dodd-Frank Act permit the CFTC to exercise its jurisdiction over fraud that does not directly involve the sale of futures or derivatives contracts.
Judge Weinstein ruled yes on both questions, holding that:
  • 7 U.S.C. Section 1(a)(9) states that a "commodity" encompasses virtual currency both in economic function and in the language of the statute.
  • The CEA gives the CFTC authority to regulate contracts for the sale of a commodity for future delivery and authority to regulate US commodities futures markets and their participants.
  • Under 7 U.S.C. Section 9(1), the CFTC has broad authority that extends to fraud or manipulation in derivatives markets and underlying spot markets.
  • 17 C.F.R. Section 180.1 permits the CFTC to exercise its enforcement powers over fraud related to virtual currencies sold in interstate commerce.
The court granted the preliminary injunction against Coin Drop, preventing it from directly or indirectly, in connection with any swap or contract for the sale of any commodity in interstate commerce, or contract for future delivery on or subject to the rules of any registered entity, intentionally or recklessly:
  • Using or attempting to use or employ any manipulative device, scheme, or artifice to defraud.
  • Making or attempting to make any untrue or misleading statement of material fact or to omit a material fact necessary in order to make statements made not untrue or misleading.
  • Engaging or attempting to engage in any act, practice, or course of business, which operates or would operate as a fraud or deceit upon any person.
The court further enjoined Coin Drop from directly or indirectly engaging in the following:
  • Trading on or subject to the rules of any registered entity that is defined in 7 U.S.C. section 1a(40).
  • Entering into any transactions involving commodity interests, as defined by 17 C.F.R. section 1.3(yy), for its own personal account or for any account in which it has a direct or indirect interest.
  • Having any commodity interest traded on its behalf.
  • Controlling or directing the trading for or on behalf of any other person or entity, whether by power of attorney or others, in any account involving commodity interests.
  • Soliciting, receiving, or accepting any funds from any person for the purpose of purchasing or selling any commodity.
  • Applying for registration or claiming an exemption from registration with the CFTC in any capacity, and engaging in any activity requiring such registration or exemption from registration with the CFTC except as provided for in 17 C.F.R. section 4.14(a)(9).
  • Acting as a principal, agent, or other person that is exempted from registering, or requiring to be registered, with the CFTC except as provided for in 17 C.F.R. section 4.14(a)(9).
The court concluded that without the injunction there would be a reasonable likelihood that Coin Drop would continue to violate the CEA.