When a cryptocurrency exchange takes money from customers and then runs, states typically treat the exchange as a fraud seller of securities. This was the case in a September enforcement action by the Delaware Investor Protection Unit and in a March enforcement action in Arkansas. But a recent California regulatory order instead treated cryptocurrency exchanges as consumer financial institutions, finding them in violation of the Unfair or Deceptive Acts or Practices (UDAP) Act. This theory is the only one that allowed the state of California to take action against the exchange.
On October 17, the California Department of Financial Protection and Innovation issued a cease and desist directive against Tokyo-based “GMO Global”. GMO Global operated 11 cryptocurrency exchange sites that promised fast trades and a secure trust account. The websites showed customers making a profit, but customers were denied when they tried to withdraw funds.
While the Delaware action was similar, the California action was conducted exclusively under the California Consumer Financial Protection Law. By engaging in activities such as “deposit-taking” as defined by California law, GMO Global became a covered consumer-financial institution. Therefore, taking money from customers became an illegal act that violated the ban on “unlawful, unfair, deceptive, or abusive act or practice” as defined by the CCFPL.
California is the first to apply UDAP to cryptocurrency exchanges, treating them as other consumer scams. But the federal government has had the idea for some time. The Federal Trade Commission has enforced its authority pursuant to the FTC Act to explore cryptocurrency exchanges. In 2018, the agency sued a Bitcoin investment fund for deceptive or unfair acts and practices. It also investigated the possibility of a cryptocurrency exchange in accordance with the same provision in 2021. The Treasury Department’s Consumer Financial Protection Bureau has encouraged the FTC to enforce unfair and deceptive practices.
Using general fiduciary law and consumer protection law sidesteps any questions about where a cryptocurrency transaction “fits” under money or value transmission laws. As digital asset offerings become more prevalent and related frauds become more common, it would make sense for more states to bring UDAP action against crypto companies.
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