Interpretation of the FIT21 Bill: Impact on the Crypto World in the Next 10 Years

This article mainly explains how to define digital assets in the regulatory framework proposed by FIT21, and how to divide the boundaries between commodities and securities. On May 22, 2024, the FIT21 bill was passed by the House of Representatives with a vote of 279 to 136. This bill establishes a regulatory framework for digital assets and may become one of the bills with the most far-reaching impact on Crypto currently.

FIT21, full name - Financial Innovation and Technology for the 21st Century Act. The key point of this bill is that it coincides with the approval of the ETH spot ETF application (Form 19b-4), standardizes the regulatory framework for digital assets, and provides guidance for more crypto-assets to apply for spot ETFs in the future, as well as the path to compliance. , it can almost be announced that the gray era that has lasted for more than ten years since the birth of Crypto has ended and officially entered the new world.

1/9 · Registration and regulatory responsibilities

There are two definitions of digital assets, namely digital commodities and securities. The bill stipulates that, depending on the direction of the definition, the supervision of digital assets is shared by two major agencies:

Commodity Futures Trading Commission (CFTC): Responsible for supervising digital commodity transactions and related market participants.

Securities and Exchange Commission (SEC): Responsible for regulating digital assets and their trading platforms that are considered securities.

2/9 · Definition of digital assets

The bill defines "digital assets" as an exchangeable digital representation that can be transferred from individual to individual without relying on an intermediary. , and recorded on a cryptographically protected public distributed ledger. This definition encompasses a wide range of digital forms, from cryptocurrencies to tokenized physical assets.

3/9 · Commodities or Securities (Classification of Digital Assets)

The bill proposes several key elements to distinguish whether digital assets are securities or commodities:

Investment Contract (The Howey Test): If the purchase of a digital asset is considered an investment and the investor expects to earn a profit through the efforts of the entrepreneur or a third party, the asset is generally considered a security. This is based on the standard established by the U.S. Supreme Court in SEC v. W.J. Howey Co., commonly known as the Howey test.

Use and Consumption: If a digital asset is used primarily as a medium to consume goods or services, such as a token that can be used to purchase a specific service or product, it may not be classified as a security, but as a commodity or other non-security assets.

Degree of decentralization: The bill particularly emphasizes the degree of decentralization of the blockchain network. If the network behind a digital asset is highly decentralized, with no central authority controlling the functionality of the network or asset, the asset may be more likely to be viewed as a commodity.

Function and technical characteristics: The technical construction and functional implementation of digital assets are also the basis for classification.

Market activity: How the asset is promoted and sold in the market is also an important factor. If an asset is marketed primarily by the expected return on the investment, it may be considered a security.

The content here is extremely important, because its significance is to standardize the regulatory framework for digital assets, and it will affect what the next digital assets that may pass through spot ETFs are.

4/9 · Standard 1: Use and consume, rather than use it as an investment to expect capital appreciation

From this perspective, public chains, PoW tokens, and functional tokens are more Standards compliant. (Note that this is only an example from the perspective of use and consumption. Defining securities/commodities requires consideration from multiple dimensions, which does not mean that such assets fully meet the standards)

The common feature of these digital assets is that they are mainly used Used as a medium of exchange or method of payment rather than as an investment with the expectation of capital appreciation. While these assets may also be bought and held speculatively in real markets, they are more likely to be treated as commodities from a design and primary purpose perspective.

5/9 · Criterion 2: Definition of the degree of decentralization

Control and influence: In the past 12 months, no individual or entity has unilateral power to directly Or control or substantially change the functions or operations of the blockchain system through contracts, arrangements or other means.

Ownership distribution: No individual or entity associated with a digital asset issuer owned more than 20% of the total digital asset issuance in the past 12 months.

Voting Rights and Governance: No individual or entity associated with a digital asset issuer has been able to unilaterally direct or influence more than 20% of digital assets or related decentralized governance systems in the past 12 months. Voting rights.

Code contributions and modifications: In the past 3 months, digital asset issuers or related personnel have not made substantial, unilateral modifications to the source code of the blockchain system, unless these modifications are for Address security vulnerabilities, maintain routines, protect against cybersecurity risks, or other technology improvements.

Marketing and Promotion: In the past 3 months, the digital asset issuer and its affiliates have not marketed the digital asset to the public as an investment.

Among these definition standards, the more rigid standards are ownership distribution and governance rights. The 20% boundary line is of great significance to the definition of digital assets as securities or commodities. At the same time, it benefits from the openness, transparency and traceability of the blockchain. , non-tamperable characteristics, the quantification of this definition standard will also become clearer and fairer.

6/9 · Standard 3: Functional and Technical Characteristics

The definition of digital assets in the bill and how to connect them to the underlying blockchain technology is to determine how these assets are used basis for supervision. We have already explained the definition of digital assets above. Let’s talk specifically about how their connection with the underlying blockchain technology determines the direction of supervision within the scope of the definition of digital assets. This connection usually includes how the assets are created. , issuance, trading and management:

Asset issuance: Many digital assets are issued through the programmatic mechanism of the blockchain, which means that their creation and distribution are based on preset algorithms and rules rather than manually. intervention.

Transaction verification: Digital asset transactions need to be verified and recorded through the consensus mechanism in the blockchain network to ensure the correctness and non-tamperability of each transaction.

Decentralized governance: Some digital asset projects have implemented decentralized governance. Users holding specific tokens can participate in the decision-making process of the project, such as voting on the future development direction of the project.

These characteristics directly affect how assets are regulated. Specifically:

If digital assets primarily provide financial returns or allow voting to participate in governance through automated procedures on the blockchain, they may be considered securities because this indicates that investors are expecting to be rewarded by management or the enterprise. Work hard to gain benefits.

If a digital asset functions primarily as a medium of exchange or is used directly to obtain goods or services, it may be more inclined to be classified as a commodity.

7/9 · Key Issue 1: The programmatic issuance characteristics of assets tend to be defined as commodities

This part is about how to define certain assets through blockchain technology, especially through intelligence. Important guidance on whether digital assets issued by contracts or decentralized applications (DApps) constitute securities.

In the traditional sense, securities typically involve investors investing money in the expectation of receiving benefits through the efforts of a business or third party. However, in the world of blockchain and cryptocurrency, many assets are issued and managed through automated procedures or algorithms, and the characteristics and purposes of these assets may be different from traditional securities.

According to the bill, even if a digital asset is sold or transferred in accordance with the terms of an investment contract, if these assets are automatically issued through a programmed blockchain system, they themselves are not automatically become securities. This is because:

Programmed operations: Blockchain technology allows the issuance and management of assets to be automated through code without relying on traditional corporate structures or the intervention of external managers. This automation reduces the direct control an individual or group has over the operation of an asset.

Decentralized features: Many blockchain-based asset issuances take advantage of decentralized features, such as smart contracts and DApps. These tools ensure that assets are operated and managed according to preset rules rather than the decisions of a single management entity.

Programming transparency: The rules and logic of assets issued through smart contracts and other methods are usually open and transparent. Investors can directly access these rules and make investment decisions based on these programmed logics.

8/9 · Key Issue 2: How to deal with digital assets with governance and voting functions

The bill mentions that if digital assets or related decentralized governance systems have been used in the past No relevant person has individually owned or controlled more than 20% of the voting rights through relevant persons within 12 months. This may indicate that the asset has decentralized characteristics. However, in the relationship between digital assets and blockchain systems, it is also mentioned that if Digital assets that primarily provide financial returns or allow voting to participate in governance through automated procedures on the blockchain may be considered securities because it indicates that investors are expecting to receive benefits from management or corporate efforts.

There is a contradiction here. If a digital asset has voting rights and no relevant person alone owns or controls more than 20% of the voting rights through relevant persons in the past 12 months, this asset is more Might it be defined as a commodity or a security?

It touches on a complex area in digital asset regulation, namely how to handle assets with governance and voting functions. Understanding this requires distinguishing two key concepts: the degree of decentralization of the asset and the control or economic benefit expectations that the asset provides to investors.

(1) Decentralization and Voting Rights

The bill mentions that if no relevant person alone owns or controls through relevant persons more than 20% of the voting power, which shows that this digital asset has a high degree of decentralization. This usually means that no single entity or small group has control over the operation or decision-making of the asset. From this perspective, a high degree of decentralization is a factor that drives assets to be regarded as commodities because it reduces the control of a single entity over the value and operation of the asset, consistent with the characteristics of commodities, that is, mainly for exchange or use, rather than For return on investment.

(2) Voting rights and security attributes

On the other hand, if digital assets allow holders to participate in governance through voting rights, especially governance that has a significant impact on economic decision-making , which may cause the asset to be considered a security. This is because voting rights and governance participation generally mean that the holder is expecting to receive benefits through management or corporate efforts, including the efforts of other holders, which is consistent with the basic definition of a security.

(3) Understanding the contradiction

The potential contradiction here is that on the one hand, the high degree of decentralization of assets is usually consistent with the attributes of commodities, on the other hand, the governance of assets and The voting rights feature, in turn, may cause it to be considered a security. The key to resolving this contradiction lies in assessing:

The material impact of voting rights: Does voting have a material direct impact on the value and operation of the asset? If the vote primarily affects technical setups or non-core economic decisions, assets may still trend toward commodities.

Economic Return Expectations: Is the holder’s main purpose of holding assets to obtain economic returns (for example, through asset appreciation or dividends), or to use the assets to conduct transactions and other activities on the platform or network?

In the context of the ETH spot ETF application (Form 19b-4) being approved, the definition of ETH is more inclined to functional use, and its nature of pledge and governance is more to maintain network operation. Rather than economic returns, digital assets similar to ETH in the future can theoretically rely on this approval as a model if they meet prerequisites such as decentralization.

From this perspective, if the DeFi protocol governed by DAO is closer to obtaining economic returns or dividends in terms of governance, its positioning is more likely to be defined as a security. In terms of functionality, technology upgrades, etc., the probability of being defined as a commodity is greater.

9/9 · Technology and Innovation Support

Act proposes to solidify and expand the SEC’s Strategic Center for Innovation and Fintech (FinHub) and the CFTC’s Laboratory (LabCFTC). Its mission is to promote fintech-related policy development and provide market participants with guidance and resources on emerging technologies.

Establish a joint advisory committee between the CFTC and SEC to focus specifically on digital asset issues. The goal of this committee is to promote cooperation and information sharing between the two major regulatory agencies in the regulation of digital assets.

Study decentralized finance (DeFi): Require the SEC and CFTC to study the development of decentralized finance and assess its impact on traditional financial markets and potential regulatory strategies.

Research on Non-Fungible Tokens (NFTs): Exploring NFTs, their role in financial markets and regulatory needs.

In this part, the attitude towards Crypto compliance is basically established. The clearer direction is the research of DeFi and NFTs, which means that DeFi and NFTs may also usher in gradually clear regulatory strategies in the future. .

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