SEC proposal would let some funds self-custody crypto

The SEC has proposed rules that could let registered investment advisers and regulated funds hold some crypto themselves when no qualified custodian is available. The proposal would give them a route to custody crypto for clients and funds, subject to safeguards. The SEC said its Oct. 1 announcement also allows state trust companies to serve as custodians.

This is a proposal, not a rule in force. The SEC says the changes are intended to update custody rules and give advisers and regulated funds more options for crypto related investments. Regulated funds include registered investment companies and business development companies.

When could an adviser hold crypto itself?

An adviser would first have to determine, in writing, that a qualified custodian—a firm permitted to safeguard client assets—is not available for that crypto asset. It would need to make that determination again at least every three months. The SEC’s proposed rule also says the adviser must show it has expertise safeguarding the asset and systems to protect it against loss, theft, misuse and misappropriation.

The SEC’s proposal sets out minimum safeguards for those systems. They include managing private keys, the codes that control access to crypto; requiring at least two people to authorize a transfer; and keeping each client’s assets in separate blockchain addresses. Advisers would also need cybersecurity controls and an annual internal control report from an independent public accountant.

What extra oversight would apply to funds?

A regulated fund could place crypto with its adviser under the proposal, but the fund’s board would have to oversee that arrangement. The board would designate which supervised adviser staff may access the keys. At least two designated people would have to authorize transfers, including a management person; for a fund, that person must also be an officer of the fund.

The proposal’s use of “self-custody” refers to an adviser holding assets for clients, rather than an investor personally controlling their own crypto. It would not mean every adviser or fund could choose to hold assets itself: the unavailability finding and safeguards would be conditions of the proposed route.

What happens next?

The SEC will take public comments for 60 days after the proposal is published in the Federal Register. The commission has not yet adopted the rules. Until it does, the proposal would not change the custody requirements advisers and funds currently face.