Background of the Proposed Rule

First proposed in 2020, a U.S. regulatory rule that would have required identity information to transact with software wallets has been quietly withdrawn.

The U.S. Treasury Department has withdrawn a rule proposed by the Financial Crimes Enforcement Network (FinCEN) that sought to apply reporting requirements for digital asset transactions from regulated exchanges to individual unhosted wallets.

The proposed rule, called "Requirements for Certain Transactions Involving Convertible Virtual Currency or Digital Assets," was often called "the midnight unhosted wallet rule."

The proposal emerged in 2020 and, if implemented, would have " required [d] banks and money service businesses to submit reports, keep records, and verify the identity of customers in relation to transactions involving convertible virtual currency (CVC) or digital assets" held by cryptocurrency wallet software, according to a document published in the Federal Register on August 16, 2024.

Concerns from the Crypto Community

If the rule had been enacted, the additional reporting requirements for unhosted wallets would be "a form of warrantless search and seizure of private financial records," according to a 2020 blog post from crypto think tank Coin Center.

"Unhosted wallets" refers to what most crypto users think of simply as "wallets"—the software that holds their private keys and manages transactions. Legislation also frequently refers to these as non-custodial wallets and self-hosted wallets.

Because transacting with crypto wallets doesn't involve a regulated financial institution, it doesn't currently involve know-your-customer procedures, meaning users can transact pseudonymously.

Unhosted wallet users have sole control of their funds and the private keys needed to make transactions, giving them greater responsibility for financial security.

Treasury's Decision to Withdraw

According to the Federal Register, the Treasury withdrew the proposed rule on April 12 this year. Yaya J. Fanusie, the director of anti-money laundering policy and cyber risk at the Crypto Council for Innovation, said, "There was pretty strong consensus that it was not technically feasible to subject self-hosted wallets to the same obligations as custodial wallets. Looks like [the] Treasury agreed, eventually."

"This is an important development, especially as other jurisdictions are trying to figure out how to best manage illicit finance risks with [self-hosted wallets]," Fanusie said on X.

The key lesson is that "the most effective [anti-money laundering] approaches are risk-based and must consider how the technology works."

Crypto Community's Reaction

Responding to news of the withdrawal, some in the crypto space celebrated, calling the move a collective victory.

"This was a team effort -- one of the first showings of crypto's strength in Washington, with many of our allies sounding the alarm and mobilizing the industry, including @CoinCenter, @EFF (Electric Frontier Foundation), @FightfortheFtr, and many others," Blockchain Association CEO Kristin Smith wrote on X.

"This was a team effort -- one of the first showings of crypto's strength in Washington, with many of our allies sounding the alarm and mobilizing the industry."

FinCEN did not immediately respond to Unchained's request for comment.