Caution: A broker-dealer acting as a transaction intermediary or introducing agent might have to recognize a liability to safeguard crypto assets.
Staff Accounting Bulletin No. 121 (SAB 121), which outlines Securities and Exchange Commission (SEC) staff views on how public entities should account for obligations to safeguard the crypto assets of third parties, was issued in March 2022. Under SAB 121, when an entity has a safeguarding obligation, the entity must recognize a safeguarding liability and accompanying safeguarding asset to reflect the risks inherent in the arrangement.
Given the brevity of SAB 121, many interpretive questions surrounding its scope and the outlined accounting and disclosure guidance have arisen. While SAB 121 includes an example of an entity that operates a platform for its users, including a service of safeguarding its users’ digital assets, we understand from the SEC staff that the scope of SAB 121 should be viewed broadly and is not limited to platform operators.
Crowe observation: It is our understanding that a broker-dealer acting as an agent and allowing its customers to trade crypto assets by introducing transactions to third-party platforms or exchanges might be required to record an obligation to safeguard the crypto assets of its customers. The obligation described in SAB 121 applies even if the broker-dealer is not contractually responsible for being the customers’ custodian or executing the customers’ transactions.
SAB 121 focuses on identifying entities that have an obligation – either directly or through agents – to safeguard the digital assets of another party. To determine if it has an explicit or implicit safeguarding obligation, an entity must evaluate the nature and level of its (and its agents’) involvement in the transaction. An entity also might consider the following factors (among others):
- Does the entity have a contractual agreement to safeguard the digital assets of another party, either directly with the owner of the digital assets or through third parties acting as the entity’s agent?
- Which entity or entities does the customer believe is responsible for providing safeguarding services?
- Does the entity hold itself out as providing safeguarding services? For example, does the entity’s website or other marketing materials suggest the entity will safeguard customers’ digital assets?
- What type of information does the entity know about the customer’s digital assets? For example, does the entity know the public key, the private key, or the customer’s individual digital asset account balances?
- Does the entity hold sufficient private key information to unilaterally transact in the safeguarded digital assets or prevent others from transacting in the digital assets?
- Does the entity perform recordkeeping services for the digital assets, including providing customer statements that include account details?
- Do transactions involving the safeguarded digital assets ever flow through the entity or its agents?
- What level of involvement does the entity have in resolving complaints from customers about the safeguarded digital assets?
Crowe observation: Based on an understanding of discussions with the SEC staff, we believe a registered broker-dealer introducing or referring its customer to a third-party crypto asset platform or exchange might create an implicit safeguarding obligation subject to SAB 121. In such circumstances, both the broker-dealer and the platform provider could be required to recognize a safeguarding obligation.
SAB 121 makes no reference to contractual rights and obligations. Therefore, a safeguarding obligation need not be contractual to require recognition. For example, although an entity might not have a contractual safeguarding arrangement in place, the totality of the facts and circumstances – including consideration of the customer’s perceptions of the entity’s involvement with safeguarding – might give rise to an implicit or constructive safeguarding obligation subject to SAB 121.
Similarly, an entity might have a contract with a customer that indemnifies or limits the liability of the entity against any losses resulting from lost digital assets. We understand that the SEC staff does not consider such language to be determinative that SAB 121 would not apply.
