WASHINGTON — The Bank of New York Mellon's ability to expand its custody business for cryptocurrencies and other digital assets could be hampered by an accounting bulletin published last year by the Securities and Exchange Commission. It's a problem BNY Mellon didn't initially see coming, according to
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BNY Mellon's challenges could be an indicator that having to hold capital against digital assets is a
BNY Mellon told the New York State Department of Financial Services that digital assets held by the bank as a custodian would not be recorded on its balance sheet, similar to the way it treats more traditional assets, according to a copy of BNY Mellon's application, obtained by American Banker via a public records request.
"The Bank aims to support the [Digital Assets Custody] product pursuant to the same general considerations regarding financial administration including, accounting treatment, liquidity and capital management, regulatory reporting, corporate tax, and billing as it does with the custody and safekeeping of traditional assets," the bank said in the application.
"The Bank will adhere to the U.S. Generally Accepted Accounting Principles ('GAAP') and International Financial Reporting Standards ('IFRS'), which advise that digital assets held at a custodian are not to be reported on the balance sheet and only the associated fiat currency balances need to be reported," the bank continued.
While the date of the application is redacted, footnote citations that denote the access date of various online sources date as late as Dec. 14, 2021. SAB 121 was released a few months later in March 2022.
BNY Mellon declined to comment on the date of the application, and on how the SEC's accounting bulletin affects the banks' future plans for its digital asset custody business.
"We have always complied with SAB 121's requirements," a BNY Mellon spokesperson said in a statement.
The SEC declined to comment.
The accounting bulletin shows up in BNY Mellon's financial statements multiple times after the SEC published it. In August — before BNY Mellon announced that it would custody crypto assets — the bank said that it was "evaluating" how the bulletin would apply to digital asset custody.
"This guidance was effective for interim and annual periods ending after June 15, 2022, with retrospective application as of the beginning of the fiscal year to which the interim or annual period relates," BNY Mellon said in its
In November — the first earnings report after BNY Mellon announced that it would custody crypto and other digital assets — the bank changed its tune.
"We adopted the guidance in the third quarter of 2022 and recorded a de minimis asset and liability related to digital assets we safeguard," the bank said in its third quarter earnings, released in early November.
In the bank's annual report, BNY Mellon said that as of the end of 2022 it still recorded a trivial amount in digital asset custody.
Because BNY Mellon says it holds such a small amount of digital assets in custody that it's immaterial to its balance sheet, SAB 121 wouldn't have much of an impact on the business, experts said.
Chris Odinet, a law professor at the University of Iowa who studies consumer finance and cryptocurrency regulation, said that the small scale of the digital asset custody business at BNY was likely baked in from an early point after the SEC released its bulletin. Instead, the bank likely sees the brand value of offering a wider suite of products that includes digital assets, he said.
"They're just saying they're doing this, we offer this to our customers, knowing full well that not very many of their customers would have the interest and the sufficient capital to really be trading these things to such a large degree that it would really hinder the bank's ability to make money," he said. "So it's like, 'Look, we're doing this, we're on the vanguard,' but kind of knowing that it's a lot of smoke and mirrors."
The SEC's guidance is, however, likely a deterrent for any bank that wants to grow crypto custody into a larger business, including at BNY Mellon.
"The leverage ratio would be the bigger impact for banks, they would have to hold capital for it," said Lee Reiners, a lecturing fellow at Duke Law and the Duke Financial Economics Center. "I think it will factor into other banks' decisions as to whether to provide this service."
As BNY Mellon points out, banks aren't typically required to put assets held in custody on their balance sheets in a way that would trigger leverage ratios and capital requirements.
Whether or not crypto assets are, at their core, similar to more traditional ones is at the heart of a broader debate between banks and the SEC. The agency has a new proposed rule out for comment, which banks, including BNY Mellon, strongly oppose, saying that the rule would overhaul custody banking.
"What people are trying to figure out is how much the safeguarding of crypto assets is whether it looks like a bank account or whether it looks like a safety deposit box," said Bryan Routledge, an associate professor of finance at the Tepper School of Business at Carnegie Mellon University. "The accounting statement is saying, no, no, if you have the keys you own the asset in the same way as if you had taken that $10 bill and handed it to the teller, you no longer own that $10 bill, you now have a liability from the bank where they are going to give you that money back."
BNY Mellon's comment letter on the SEC's proposal recommends that the SEC withdraw SAB 121, arguing that the SEC's proposal both encourages banks to develop safe ways to custody digital assets, while at the same time SAB 121 de facto limits their ability to do so.
"On the one hand, the Proposal invites custodians to develop 'innovative safeguarding procedures' for digital assets and sets a pathway for banks to do so in a manner that mitigates the risks on which SAB 121 is premised," said Roman Regelman, BNY's head of securities services and digital, in their comment letter from May. "On the other hand, banks cannot practically serve as qualified custodians for digital assets in any sufficient scale if they are still subject to the threshold limitations of SAB 121 by function of requiring custodied digital assets to be reflected on their balance sheets."
On some level, crypto assets and traditional assets don't pose the same risks, and there is a reasonable argument for treating them differently, said John Sedunov, an associate professor of finance at Villanova University in the School of Business. Specifically, crypto can present higher technological operational risks.
Unlike, for example, a stock certificate sitting in a bank's safety deposit box, a stolen or hacked cryptocurrency could be lost forever, rather than recovered or otherwise returned to its rightful owner. The scale and speed at which this could happen is also much faster compared to most traditional assets that might be held in custody, he said.
"That presents a unique set of risks that you don't see in other assets," he said. "So it's worth a harder look at digital assets. Do we need to be draconian about it? Maybe not."
