Texas legislation would ban commingling of customer funds by digital asset service providers

By R. Jason Howard, J.D.

On Thursday, April 20, 2023, Texas House Bill 1666, an Act relating to the commingling of funds by digital asset service providers, was passed on its third reading with 148 Yeas and 0 Nays and, if enacted, will amend Subtitle E, Title 3, of the Texas Finance Code by adding Chapter 160.

In particular, Texas H.B. 1666 provides definitions related to the chapter, including, among others:

• “Customer funds,” which means the digital assets, fiat currency, or other property deposited by a digital asset customer;
• “Digital asset,” which means a natively electronic asset that confers economic, proprietary, or access rights and is recorded or stored in a blockchain, cryptographically secured distributed ledger, or similar technology; and
• “Digital asset service provider,” which means an electronic platform that facilitates the trading of digital assets on behalf of a digital asset customer and maintains custody of the customer’s digital assets.

The new chapter will apply to a digital asset service provider doing business in Texas that holds a money transmission license and either serves more than 500 digital asset customers in Texas or has at least $10 million in customer funds. The legislation also provides for exclusions to the applicability of the chapter and states that a digital asset service provider may not commingle customer funds with funds belonging to the digital asset service provider, including the digital asset service provider’s operating capital, proprietary accounts, digital assets, fiat currency, or other property that is not customer funds.

In addition, the digital asset service provider cannot use customer funds to secure or guarantee a transaction other than a transaction for the customer contributing the funds or maintain customer funds in such a manner that a digital asset customer may be unable to fully withdraw the customer ’s funds. A digital asset service provider shall maintain customer funds in separate accounts or in an omnibus account that only contains digital assets of digital asset customers and in which digital assets of digital asset customers are not strictly segregated from each other.

Pursuant to the legislation, a digital asset service provider must also create a plan to allow each digital asset customer to view, at least quarterly, an accounting of the customer’s outstanding liabilities and digital assets being held. A digital asset service provider will also be required to file a report with the Texas Department of Banking not later than the 90th day after the end of each fiscal year which, among other things, must include an attestation by the digital asset service provider of outstanding liability to digital asset customers, and an attestation by an auditor that the information in the report is true and accurate.

In addition to setting forth the requirements for a money transmission license, the legislation allows the department to suspend and revoke a money transmission license for violations of the chapter and it allows the department to impose any penalty under Subchapter H, Chapter 151, that may be imposed on a person who violates that chapter or a digital asset service provider who violates Chapter 160.

The Texas Senate companion bill, S.B. 770, differs in some respects, most notably with the absence of the provision for penalties which the department can impose under Subchapter H, Chapter 151.

The Act is set to take effect on September 1, 2023, if it is signed into law.