U.S. Securities and Exchange Commission Engaging in 'Backdoor Regulation'
United States Senator Bill Hagerty has sent a letter, cosigned by four other Republican senators, to Securities and Exchange (SEC) Commission chair Gary Gensler urging the withdrawal of a staff accounting bulletin, referred to as SAB 121, issued by the agency March 31. According to the senators, the bulletin amounts to “regulation disguised as staff guidance” and does not adhere to the Administrative Procedure Act.
[Andersen, D. Senators join chorus of disapproval of ‘backdoor regulation’ in SEC staff accounting bulletin. (Accessed June 18, 2022)].
Specific language from this letter includes:
Although the underlying interpretation may or may not be appropriate, as currently drafted, the SAB 121 is regulation disguised as staff guidance. As you know, staff typically only provide interpretive guidance on existing regulations. Here, there is no underlying regulation being interpreted. Moreover, the Bulletin leaves no doubt that staff expects regulated entities to comply – indicating the Bulletin is enforceable. Staff guidance cannot create enforceable obligations.... Agencies must conduct rulemaking under the Administrative Procedure Act, which incorporates process and transparency designed to ensure that the public and all affected by a proposed rule have the opportunity to provide comment, resulting in sound, well-designed regulations. The SEC’s approach to the emerging crypto market has not promoted process, transparency, or public engagement.... Staff should not make policy. We hope you will withdraw SAB 121 and follow the proper procedure for such a significant accounting change.
[Hagerty, B., Tillis, T., Lummis, C., Crapo, M. and Rounds, M. Letter to Gensler. (Accessed June 19, 2022)].
The full text of the U.S Securities and Exchange Commission's Staff Accounting Bulletin No. 121 may be found by clicking here if interested. Cutting through the bureaucratic babble:
SAB 121 asserts that a company is subject to “significant increased risks… including an increased risk of financial loss” when such company controls cryptographic keys attached to a user’s digital assets. When exerting such control, reporting companies should disclose and quantify these obligations, recording a liability and corresponding asset on their balance sheets at fair value in doing so... The following specific disclosures of the safeguarding obligation are required:
- How the issuer is accounting for the safeguarding liability and asset and the impact of initially applying the SAB;
- The nature and amount of each significant digital asset that the issuer is responsible for safeguarding on behalf of others, along with vulnerabilities that the issuer has from any related concentration;
- Because loss exposure is based on the risks associated with safeguarding crypto-assets held for platform users, companies should measure potential safeguarding liability at initial recognition and on each reporting date at the fair value of the crypto-assets for which the company has holding responsibility;
- The company should also recognize the related asset at the same time it recognizes the liability, measured at initial recognition and each reporting date at the fair value of the crypto-assets held for platform users;
- Who, the company, its agent or another third party, holds the cryptographic keys, maintains the internal recordkeeping of those assets, is obligated to secure the assets and must protect them from theft or other potential loss;
- The notes to the financial statements should include concrete and clear disclosure of the nature and amount of crypto-assets that a company is responsible for holding for its platform users, with separate disclosure for each significant crypto-asset, along with vulnerabilities and uncertainties the company has due to any related concentration;
- Such disclosure should include information regarding the fair value measurements of the safeguarding obligations; and
- Accounting for the liabilities and corresponding assets should be described in the financial statement footnotes.
[Jones, M. Staff Accounting Bulletin No. 121: Guidance for Entities Safeguarding Crypto-Assets Issued. (Accessed June 19, 2022)].
Almost immediately, SAB 121 elicited a negative response from 'Crypto Mom' (SEC Commissioner Hester Peirce). After noting that SAB 121 was just another manifestation of the SEC's inefficient approach to cryptocurrencies, she concluded:
... the guidance is narrowly targeted and highly specific, and it reads as though the guidance were enforceable. But, as a staff statement, the bulletin is not enforceable. 'If we are trying to encourage companies to enter our public markets, we ought to embrace a more deliberate approach to changing rules—one that involves consulting with affected parties'.
[Andersen, D. New SEC guidance on accounting and disclosures rankles Commissioner Peirce. (Accessed June 19, 2022)].
In May, 2022, crypto exchange Coinbase caused a stir by including language pursuant to SAB 121 in its first quarter report to the SEC. The statement so included was: "In the event of a bankruptcy, the crypto assets we hold on behalf of our customers may be subject to bankruptcy proceedings" [Reguerra, E. Coinbase CEO says funds are safe amid bankruptcy protection fears. (Accessed June 19, 2022)].
Responding to the speculation created by this SAB 121 language, Coinbase CEO Brian Armstrong took to Twitter as follows:
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The banking industry also reacted to the bulletin with alarm. The American Bankers Association and Securities Industry and Financial Markets Association SIFMA sent a letter to the SEC on May 27 saying, 'our member firms believe there are a number of questions regarding the scope and application of SAB 121 and, therefore, believe deferral of the effective date is necessary to ensure these matters are appropriately addressed'.
[Andersen, Senators join chorus of disapproval of ‘backdoor regulation’ in SEC staff accounting bulletin, supra].
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