Providing for Congressional Disapproval of the Rule Submitted By the Securities and Exchange Commission Relating to ``Staff Accounting Bulletin No.

Floor Speech

BREAK IN TRANSCRIPT

Mr. FLOOD. Mr. Speaker, I thank Chairman McHenry for yielding.

I am pleased to speak in support of my bipartisan resolution, H.J. Res. 109, a Congressional Review Act resolution for the SEC's Staff Accounting Bulletin No. 121, or SAB 121 for short.

I thank Congressman Nickel and Senator Lummis for working with me on this resolution and for the chairman's leadership in getting this to the floor.

This is something of a complicated issue, as you have heard today, so I will break it down into a few different components.

First, I will begin by explaining what a staff accounting bulletin is. Staff accounting bulletins are technical accounting guidance for public entities. They are typically noncontroversial in nature and, importantly for this debate, are not rules. Guidance is not supposed to dictate a major change in policy. That is what our notice-and-comment rulemaking process is for.

This specific bulletin effectively requires banks to put digital assets held in custody on their balance sheet. Simply put, that is not how custody usually works.

As a Federal Reserve Chairman once said: ``Custody assets are off balance sheet, always have been.''

This bulletin upends custodial practice for banks, and it effectively keeps banks out of this market entirely. That is not good for consumers or investors.

Next, let's talk about the process, as the chairman has already mentioned. There were two major process fouls by the SEC in issuing SAB 121.

Number one, the SEC is not a bank regulator, and SAB 121 affects a core banking activity: custody. Yet, the SEC issued this bulletin without even talking to the regulators first. Think about that. The SEC issued this without even talking to the prudential regulators. That is an incredible oversight, particularly given the bulletin's unusual treatment of custodial assets.

Number two, the nonpartisan Government Accountability Office determined that this bulletin is effectively a rule. In other words, the SEC got caught trying to circumvent the APA and the due diligence requirements that come with it.

Now, let's talk about solutions. The easiest way to fix this problem is for the SEC to simply rescind the bulletin themselves and work with the prudential regulators on an alternate solution.

Despite the fact that this bulletin was issued through a faulty process and despite the negative ramifications of keeping banks from taking custody of retail investor assets, the SEC has been unwilling to have any conversation about making changes.

That leaves us with no choice. Congress needs to act through the Congressional Review Act to rescind SAB 121.

Finally, let me briefly address an argument that Ranking Member Waters and some of my Democratic colleagues have made on this issue. I have heard this argument that the CRA should not be applied to an accounting bulletin, but let's contemplate the alternative. What are the implications if we fail to pass this resolution?

This is an instance where the nonpartisan GAO outright said the SEC circumvented the proper regulatory process.

BREAK IN TRANSCRIPT

Mr. FLOOD. Mr. Speaker, think about why the Congressional Review Act was passed in the first place: to give Congress the ability to check a regulator that has gone astray. If we don't pass this resolution, we are effectively giving the green light to our regulators to bypass the APA rulemaking process with impunity.

This isn't just about the SEC or bank custody. This is about providing a necessary check to executive branch power. Regardless of your feelings on the banking policy or the SEC, I urge my colleagues to support this resolution for the sake of upholding the authority of the institution we serve in.

Mr. Speaker, I include in the Record four letters.

Number one is a letter dated April 27, 2023, sent by Fed Vice Chair Michael Barr to Senator Lummis, discussing the impact of SAB 121 on Fed-regulated financial institutions.

Number two is a letter dated April 18, 2023, sent by FDIC Chairman Gruenberg to Chairman McHenry and Senator Lummis, in response to their March 2, 2023, letter.

Number three is a letter dated February 28, 2024, sent by the Conference of State Bank Supervisors to Chairman McHenry and Ranking Member Waters, outlining the unintended effects SAB 121 could pose on consumers and markets. Board of Governors of the Federal Reserve System, Washington, DC, April 27, 2023. Hon. Cynthia M. Lummis, U.S. Senate, Washington, DC.

Dear Senator: Thank you for your letter dated March 2, 2023, regarding the Securities and Exchange Commission (SEC) Staff Accounting Bulletin 121 (``SAB 121'') published on April 11, 2022.

As you know, the Federal Reserve is not responsible for the general accounting policy for public companies and, as such, Federal Reserve staff were not consulted by the SEC regarding the development and issuance of SAB 121. For accounting and reporting purposes under U.S. generally accepted accounting principles (GAAP), assets held in custody are generally not recognized on the custodian's balance sheet--as the custodian does not control the assets--and we defer to the SEC on these matters. However, I would note that state member banks may provide safekeeping services, in a custodial capacity, for crypto-assets if conducted in a safe and sound manner and in compliance with consumer, anti-money laundering, and anti- terrorist financing laws.

By law, regulatory reports and statements required to be filed with Federal banking agencies by all insured depository institutions must be uniform and consistent with U.S. GAAP. In light of SAB 121, the Federal Financial Institutions Examination Council (FFIEC) issued supplemental instructions to the Call Report related to SAB 121. The supplemental instructions state that an institution that determines that it is appropriate for it to apply SAB 121 for SEC or other financial reporting purposes should complete its Call Report consistent with the classification determination made for SEC or other financial reporting purposes. Institutions are encouraged to consult with SEC staff on the scope and applicability of SAB 121.

The Basel Committee's prudential treatment of crypto-asset exposures applies to various types of exposures to banks, such as exposures held as securities on balance sheet or through derivatives. However, the Basel standard does not generally apply to custodial assets.

The Federal Reserve continues to take a careful and cautious approach related to current or proposed crypto- asset-related activities at each banking organization and will continue to ensure that legally permissible activities are conducted in a manner that is safe and sound, and in compliance with applicable laws and regulations, including those designed to protect consumers. Sincerely, Michael S. Barr. ____ Federal Deposit Insurance Corporation, Washington, DC, April 18, 2023. Hon. Cynthia M. Lummis, Committee on Banking, Housing, and Urban Affairs, U.S. Senate, Washington, DC. Hon. Patrick McHenry, Chairman, Committee on Financial Services, House of Representatives, Washington, DC.

Dear Senator Lummis and Chairman McHenry: Thank you for your letter of March 2, 2023, to the Federal Deposit Insurance Corporation (FDIC) regarding the accounting and regulatory capital implications of the Securities and Exchange Commission (SEC) Staff Accounting Bulletin 121 (SAB 121).

FDIC staff was not consulted by the SEC before the issuance of SAB 121 and has not been advised of any plans by the SEC to modify or withdraw SAB 121. By law, regulatory reports and statements required to be filed with Federal banking agencies by all insured depository institutions must be uniform and prepared in a manner that is no less stringent than U.S. generally accepted accounting principles (GAAP). In accordance with U.S. GAAP, assets held in custody are generally not recognized on the custodian's balance sheet, because custodial assets provide no economic benefit to the custodian and the custodian does not control the assets.

Beginning in June 2022, the Federal Financial Institutions Examination Council, of which the FDIC is a member, issued Supplemental Instructions for the Consolidated Reports of Condition and Income (Call Report). Those instructions state: ``An institution that determines that it is appropriate for it to apply SAB 121 for SEC or other financial reporting purposes should complete its Call Report consistent with the classification determination made for SEC or other financial reporting purposes.'' The FDIC encourages institutions to consult with SEC staff on the scope and applicability of SAB 121. Reporting custodial assets on-balance sheet in accordance with SAB 121 would be no less stringent than U.S. GAAP.

The Basel Committee on Banking Supervision (BCBS) published its final standard on the prudential treatment of crypto- asset exposures in December 2022. The BCBS standard outlines that consistent with the leverage ratio standard, crypto- assets are included in the leverage ratio exposure measure according to their value for financial reporting purposes, based on applicable accounting treatment for exposures that have similar characteristics. The standard states that crypto-asset exposures include on- or off-balance sheet amounts that give rise to credit, market, operational and/or liquidity risks. Certain parts of the standards, such as those related to operational risk, are also applicable to banks' crypto-asset activities. The FDIC does not view the BCBS standard as being in conflict with the SEC's SAB 121, although the agency does acknowledge that the SEC's SAB 121 would require institutions to hold capital against custodied crypto-assets.

The FDIC continues to actively monitor activities associated with digital asset by regulated banking organizations that includes digital asset custodial activities. The FDIC will continue to ensure that legally permissible activities are conducted in a safe and sound manner and in compliance with applicable laws and regulations, including those designed to protect consumers.

Your interest in this matter is appreciated. If you have additional comments or questions, please contact me or Andy Jiminez, Director, Office of Legislative Affairs. Sincerely, Martin J. Gruenberg. ____ CSBS, Washington, DC, February 28, 2024. Hon. Patrick McHenry, Chairman, House Financial Services Committee, Washington, DC. Hon. Maxine Waters, Ranking Member, House Financial Services Committee, Washington, DC.

Chairman McHenry and Ranking Member Waters: On behalf of the Conference of State Bank Supervisors, I write to relay our concerns with the U.S. Securities and Exchange Commission's (SEC) Staff Accounting Bulletin 121 (``SAB 121,'' or ``the Bulletin''). The Bulletin, issued without public consultation, unilaterally upends traditional custodial accounting obligations. As written, SAB 121 could lead to significant downstream effects for custodial firms subject to prudential regulation.

State regulators strongly support appropriate customer protections and a safe and sound financial system. Further, we appreciate the SEC's effort to provide guidance concerning novel activities such as custodial services for ``crypto- assets.'' However, decisions with wide-ranging implications across the banking sector should be made in consultation with prudential regulators at both the state and federal level and only after an opportunity for public notice-and-comment. As the Government Accountability Office (GAO) ruled in October 2023, SAB 121 qualifies as a rule under the Administrative Procedure Act (APA) and, as such, should have been made available for public comment.

While custodial activities may have once elicited images of only safe deposit boxes holding valuable physical objects, today's banks hold a variety of both physical and electronic assets. More recently, bank customers have been increasingly interested in banks' ability to custody crypto-assets, including cryptographic keys. While the nature of the underlying assets may change and prudential risk management requirements may vary from asset to asset, the accounting and regulatory principles applicable to such custodial assets should be consistent. In unilaterally departing from well- established accounting principles for safeguarding custodial crypto-assets, SAB 121 ignores existing regulatory frameworks in place to ensure custodial activity is conducted in a safe and sound manner.

Failure to take public comment or consult with other regulators on a cross-jurisdictional issue like this could result in substantial unintended consequences. Two areas of potential side effects from this opaque rulemaking include:

Potential Asset Concentration. The Bulletin requires on- balance sheet accounting of crypto-assets under custody, which is a significant departure from the treatment of other assets held under custody. Due to the prudential regulatory implications of on-balance sheet accounting, this would likely require custodial institutions to raise significant funds to maintain adequate leverage ratios--a step many industry participants have indicated would be prohibitive to providing these custodial services for customers. Not only is this model inconsistent with the principle that similar activities should be regulated in a similar manner, but it could also result in an unnecessary and potentially risky concentration of custodial assets outside of prudentially regulated institutions.

Loss of Insolvency Protections for Customers. Applying on- balance sheet treatment for crypto-assets may inappropriately subject customer assets to creditors' claims in the event of the insolvency of an institution offering custody products and services. In a traditional bankruptcy proceeding, assets accounted for on-balance sheet are typically subject to creditor claims. Conversely, assets held in custody for the benefit of customers are considered accounted for off-balance sheet--and thus protected in bankruptcy--because they remain the assets of the customer. Requiring custodied crypto-assets to be accounted for on-balance sheet risks losing the bankruptcy remote protections of custody services. This is an important distinction from the treatment for a broker-dealer that would be subject to a different form of bankruptcy under the Securities Investor Protection Act.

These are only two unintended side effects that SAB 121 could impose on markets and consumers in an evolving technological environment.

History repeatedly demonstrates the shortcomings of rulemaking in a vacuum. Without significant consultation with peer regulators and comments from the broader public, these types of missteps are all too common, particularly with new and innovative technologies. We support robust consumer and market protections in this growing and evolving asset class and stand ready to provide Congress and our federal regulatory partners with our experience and expertise. However, given the lack of adequate consultation and opportunity for public comment, and the potential for significant detrimental effects, we have significant concerns with SAB 121. Sincerely, Brandon Milhorn, President and CEO.

BREAK IN TRANSCRIPT

Mr. FLOOD. Mr. Speaker, number four is a letter dated February 29, 2024, sent by the American Bankers Association to Chairman McHenry and Ranking Member Waters, expressing support for H.J. Res. 109. American Bankers Association, Washington, DC, February 29, 2024. Re Providing for congressional disapproval under chapter 8 of title 5, United States Code, of the rule submitted by the Securities and Exchange Commission relating to ``Staff Accounting'' Bulletin No. 121'' (H.J. Res. 109). Hon. Patrick McHenry, Chairman, Committee on Financial Services, House of Representatives, Washington, DC. Hon. Maxine Waters, Ranking Member, Committee on Financial Services, House of Representatives, Washington, DC.

Dear Chairman McHenry and Ranking Member Waters: The American Bankers Association (ABA) welcomes and supports H.J. Res. 109, the Congressional Review Act resolution of disapproval for the Securities and Exchange Commission ``Staff Accounting Bulletin 121.'' which was recently introduced by Reps. Mike and Flood (R-NE) and Wiley Nickel (D-NC). Adverse Impact of SAB 121 on Bank Digital Asset Products and Services

In March 2022, the Securities and Exchange Commission (SEC) released Staff Accounting Bulletin 121 (SAB 121) to address perceived risks to publicly traded companies that safeguard crypto assets for their customers. Under SAB 121, an entity responsible for safeguarding cryptocurrency assets for platform users must present a liability on its balance sheet at fair value to reflect that obligation, as well as a corresponding asset. SAB 121 is a departure from the banking industry's historical practice of treating custody assets off-balance sheet, and this accounting treatment effectively precludes banks from offering digital asset custody at scale since placing the value of client assets on balance sheet will impact prudential requirements such as capital, liquidity, and other mandates.

On February 14, 2024, ABA joined with several other financial trades in a joint letter to the SEC. In the letter, we noted that U.S. banking organizations' experience over the past two years with SAB 121 shows that it has curbed the ability of our members to develop and bring to market at scale certain digital asset products and services. We gave two concrete examples:

(1) Spot Bitcoin ETPs

The Commission recently approved Spot Bitcoin Exchange Traded Products (ETPs), allowing investors access to this asset class through a regulated product. However, notably absent from those approved products are banking organizations serving as the asset custodian, a role they regularly play for most other ETPs. These ETPs have already experienced billions of dollars in inflows, but it is practically impossible for banks to serve as custodian for those ETPs at scale due to the Tier 1 capital ratio and other reserve and capital requirements that result from SAB 121. This raises important questions about the safety and stability of this ecosystem.

We believe that this result could raise concentration risk, as one nonbank entity now serves as the custodian for the majority of these ETPs. That risk can be mitigated if prudentially regulated banking organizations have the same ability to provide custodial services for Commission regulated ETPs as qualified nonbank asset custodians. SAB 121 does not appear to contemplate this type of concentration risk, in part perhaps because Spot Bitcoin ETPs or similar products were not an approved product at the time SAB 121 was issued.

(2) Use of DLT to record traditional financial assets

Banking organizations are increasingly exploring the use of Distributed Ledger Technology (DLT) to record traditional financial assets, such as bonds. The use of DLT has the potential to expedite and automate payment, clearing, reconciliation and settlement services, and multiple central banks outside the United States are partnering with banks to explore the adoption of DLT. However, SAB 121 has proven to be a barrier to banking organizations' ability to meaningfully engage in DLT-based projects due to the breadth of the definition of ``crypto-asset'' in SAB 121: ``a digital asset that is issued and/or transferred using distributed ledger or blockchain technology using cryptographic techniques.''

Under this definition, a traditional financial asset issued or transferred using DLT could be considered a ``crypto asset'' and thus within scope of SAB 121, regardless of the applicable risks. SAB 121 makes no distinction between asset types and use cases, but instead generally states that crypto-assets pose certain technological, legal, and regulatory risks requiring on-balance sheet treatment. However, there are significant differences between a cryptocurrency like Bitcoin that exists on a public, permissionless network versus a traditional financial instrument that is recorded on a blockchain network where access is controlled and transactions can be cancelled, corrected, or amended.

The past two years have underscored these differences, as the turmoil in the crypto market has been wholly unrelated to banks' use of permissioned DLT. DLT does not change the underlying nature or risks of traditional assets, nor do they present the risks SAB 121 purports to address, and thus SAB 121's application to those assets should be reconsidered. Clear indication from the Commission that the use of DLT to record or transfer traditional financial assets is consistently outside the scope of SAB 121 would alleviate associated challenges.

In the February 14 letter, we made several recommendations for changes to SAB 121 that would mitigate the specific challenges identified above without undermining the stated policy objectives of the SEC to enhance the information received by investors and other users of financial statements. We also asked for a meeting to discuss those changes, but as yet have not had a response from the SEC. Adverse Consequences for Consumers

Banks have long provided safe and well-regulated custody services to investors for securities and other assets. However, the implications of SAB 121 mean few banks are currently offering custody services for digital assets, leaving consumers with few options for a safe, well-regulated custody service for digital assets.

In fact, many have turned to non-bank market entrants that are not subject to prudential regulation and examination and are not subject to robust capital and liquidity requirements. This unregulated activity can expose consumers and counterparties to significant harm. Conclusion

We applaud Representatives Flood and Nickel for their leadership on this important issue. The SEC's Staff Accounting Bulletin 121 represents a significant departure from longstanding accounting treatment for custodied assets and threatens the banking industry's ability to provide its customers with safe and sound custody of digital assets, Limiting banks' ability to offer these services leaves consumers with few well-regulated, trusted options for their digital asset portfolios and ultimately exposes them to risk.

We encourage you and your membership to favorably report this resolution out of the Committee. We would be pleased to meet with you and your staff to discuss how Staff Accounting Bulletin 121 inhibits consumer access to safe, sounds access to digital asset custody services. Sincerely, Kirsten Sutton, Executive Vice President, American Bankers Association.

BREAK IN TRANSCRIPT

Source