This is the first part of an article written by Amy Madison, an investor, lawyer, and strategic advisor. This piece, which focuses on Money Transmitters and Convertible Virtual Currencies originally appeared here and should not be taken as legal or investment advice.
“How can you design if you don’t know what the consequences of your decisions are? Creating something without any outcome in mind is not design but experimentation.”
— Virtual Economies: Design and Analysis
With high reward comes high risk. As the global gaming industry balloons to $336B in 2021, and web3 gaming exploding over 2,000% as the fastest-growing category, it’s easy for developers and investors who wish to enter this lucrative market to forget that timeless adage. Web3 gaming in particular comes with its own landmines, especially in the legal and regulatory department. I’ve developed this multi-chapter primer as your key to decoding the regulatory bodies that could dash your dreams of becoming (or funding) the next Sky Mavis or Web3 Epic Games. The name of the web3 development game: maximizing reward while minimizing risk.
The largest pain point for blockchain gaming is regulatory uncertainty. Not only do existing issues such as IP, consumer protection, and gambling applicable to traditional games remain in effect, but web3 games have additional challenges around convertible virtual currencies: NFTs, money transmission, and securities laws. Moreover, all of this is taking place against the background of still-nebulous regulations surrounding cryptocurrency in general. With the consequences of getting it wrong for developers ranging from fines to criminal charges, it is more important than ever to understand the legal landscape.
Games increasingly permeate all aspects of society, beyond entertainment, facilitating social engagements and financial transactions. As the industry continues its rapid evolution, I hope these chapters will inspire more conversations and critical analysis by bringing to light some of the challenges that investors and builders in this space should think about.
Nothing in this primer or the content associated with it should be interpreted as legal or investment advice. However I do encourage you to share this primer to educate your gaming development team and investors on the potential risks, and even consult with me for specialized advising.
What is a Money Transmission and Why Does it Matter?
Imagine you've launched a massively multiplayer online (MMO) game, only to discover that criminals use it to communicate and move illicit funds. All the years of research, development, investment, marketing - only to be compromised by unintended, but arguably foreseeable uses of your platform. Over half of the world’s population plays games. Collectively, they conduct trillions of microtransactions annually and move billions of dollars in the buying, selling, and trading of in-game assets, often without having to reveal their identities. Over $11B of these transactions are conducted through gray markets (unintended or unofficial channels). It’s not difficult to imagine how a bad actor could attempt to exploit these conditions to move money or value around undetected. In 2019, Valve discovered that bad actors were using CS:GO container keys through which to liquidate their illicit gains, and announced that newly purchased keys can no longer leave the purchasing account (i.e., cannot be sold on the Steam Community Market or traded). A quick google search will also show several threads and discussions on “how to launder WoW gold.” This risk can become heightened (if not offset by protective measures), in the case of web3 gaming - a relatively nascent, but rapidly growing market with its open economies that allow value to be moved across games and national borders. With more money than ever pouring into the industry (in-game purchases are a $60B+ and growing market), and an increasing number of exploits involving in-game currencies and digital assets (Axie Infinity’s Ronin bridge $650MM hack), regulators are starting to pay greater attention to the industry.
“ With more money than ever pouring into the industry, and an increasing number of exploits involving in-game currencies and digital assets (Axie Infinity’s Ronin bridge $650MM hack), regulators are starting to pay greater attention to the industry.”
In the US, the movement of money and the entities that move them are regulated at the federal level by the Financial Crimes Enforcement Network (FinCEN) pursuant to the authority granted by the Bank Secrecy Act (BSA). FinCEN serves to protect US national security, deter and detect criminal activity, and safeguard the financial system from money laundering and terrorism related crimes. Money transmission is also regulated by each state's banking department. All of the states except for Montana regulate money transmission. Each state has a varying version of money transmission and corresponding rules and regulations (New York’s Bitlicense regime being one of the draconian), which as you can imagine, makes state compliance difficult to navigate.
Regulatory and Friends Alphabet Soup:
FinCEN: Financial Crimes Enforcement Network
FATF: Financial Action Task Force
OFAC: Office of Foreign Assets Control of the Department of Treasury
CFTC: Commodity Futures Trading Commission
SEC: Securities and Exchange Commission
There are efforts to harmonize the rules and regulations across states. If you’re building or operating a game, or running a business within a game, it is important to determine if the products or services that you’re offering (even if benign on their face) are regulated activities (both federally and by state).
Keep this in mind when analyzing each product, service, or transaction in your game for whether it may fall within the purview of federal and/or state regulators, whether now or in the future. If they do, you may inadvertently be subject to a host of regulations and requirements, which may include registration and licensing, setting up Anti-Money Laundering (AML) and Know Your Customer (KYC) programs, and various tracking and reporting obligations (such as filing suspicious activity reports and Travel Rule obligations which require you to collect certain types of information). These requirements apply equally to both domestic and international entities that do business in whole or in substantial part in the US, even if there is no physical presence.
The mandates of the regulators at each level of government are different, which is important to keep in mind when thinking about whether to register (at the federal level) and/or get licensed (at the state level) and where. FinCEN’s priority is on deterring criminal activity, while the states focus on protecting the citizens of their state. At the federal level, you register as a Money Services Business (MSB) with the Department of Treasury. At the state level, you have to apply for a state specific money transmission license (MTL) with their banking department. When you hear of MTLs taking several million dollars and a few years to obtain, they’re referring to state licensures. The Uniform Regulation of Virtual Currency Businesses Act (the Act) passed by the Uniform Law Commission specifically carves out from state banking regulation, a digital representation of value that is used solely within a game and sold by the same game developer or publisher. Rhode Island is the only state that has thus far enacted the Act.
Once you determine whether you’re conducting a regulated money transmission activity, the next question should be whether to partner with a third party regulated provider or to seek registration and licensure on your own. The decision of whether to register at the federal level and seek licensure at the state level, and in which states, can be a strategic and risk based decision, especially if time and money are resource constraints. For example, registering at the federal level puts you on a list that’s available to state regulators. Other practical considerations include where your customers are (the more in any given state, the higher the likelihood of getting on a state regulator’s radar), and whether you have a physical presence in that state. For the purposes of this article, we’ll focus on money transmission at the federal level (can assume a similar application at the state level).
“The decision of whether to register at the federal level and seek licensure at the state level, and in which states, can be a strategic and risk based decision, especially if time and money are resource constraints. Registering at the federal level puts you on a list that’s available to state regulators. Other practical considerations include where your customers are (the more in any given state, the higher the likelihood of getting on a state regulator’s radar).”
FinCEN regulates a class of entities called MSBs. There are several types, and each type is subject to unique rules and regulations, and exceptions and exemptions. The most relevant type of MSB to the gaming industry are money transmitters.
Money Transmitters and Convertible Virtual Currencies
If you accept money or something very similar with generally recognizable value and give it to another person or move it to another location or the same location but at a different time for the same person, that activity qualifies as “money transmission.” An example would be accepting USDC from one person and moving it to another person’s wallet. This activity is regulated unless you qualify for an exception or exemption, such as the individual user exemption. Where someone obtains ETH to purchase real or virtual goods or services, they’re not considered a money transmitter under FinCEN's regulations.
Money Transmission: The (1) acceptance of money or something very similar with generally recognizable value, and (2) transmission of the same to another person or location or the same location but at a different time for the same person. E.g., PayPal, Western Union, and Coinbase.
Virtual currencies can be convertible or nonconvertible, and centralized or decentralized. Nonconvertible currencies are intended to be used within certain closed systems or games only and are not subject to money transmission regulation. Convertible virtual currencies (CVCs) either have an equivalent value in real currency or can serve as a substitute for real currency. CVCs are generally accepted at multiple places and can be exchanged back and forth for real currency.
Convertibility is a facts and circumstances analysis, and is dynamic. As the Financial Action Task Force (FATF) has said in their guidance, “Development of a robust secondary black market in a particular ‘non-convertible’ virtual currency may, as a practical matter, effectively transform it into a convertible virtual currency.” Centralized virtual currencies have a single administrator that establishes the rules and controls the system. Decentralized virtual currencies are distributed and open source with no central administering authority.
In addition to the general money transmission catch all above, there are two categories of money transmitters that are applicable to web3 gaming activities, (1) administrators, and (2) exchangers. An administrator is a person engaged as a business in issuing a centralized CVC, and who has the authority to redeem such virtual currency.
Truly decentralized virtual currencies, most often issued by a DAO (more details below), do not trigger administrator liabilities as an administrator. As a generalization, gaming companies typically offer some form of game currency to transact in game (e.g., World of Warcraft’s Gold, Second Life’s Linden Dollars, or Fortnite’s V-Bucks), and/or digital assets to supplement and enhance gameplay (e.g., skins, weapons/accessories, pets, land, etc.). An administrator does not only issue these currencies or assets, but are usually able to revoke access from the player and take them out of circulation from the game (i.e., possible administrator activity if the currencies or assets are found to be CVCs). The analysis of whether you are an administrator usually surrounds the launch event (in the context of blockchain, who launches the smart contract), which is the highest point of risk.
Convertible Virtual Currencies (CVCs) are virtual currencies that have an equivalent value in real currency or can service as a substitute for real currency. E.g., ETH, BTC, and USDC.
“Development of a robust secondary black market in a particular ‘non-convertible’ virtual currency may, as a practical matter, effectively transform it into a convertible virtual currency. ”
— FATF 2015 Guidance for a Risk-Based Approach on Virtual Currencies
An exchanger is a person engaged in the business of exchanging virtual currency (centralized or decentralized) for real currency, funds, or other virtual currency. When games take custody of the currencies and assets, and facilitate the purchase and sale of them, whether over-the-counter or through a marketplaces that allow the exchange between players, they may be conducting exchanger activity if the currencies or assets are found to be CVCs. Gaming companies could inadvertently trigger money transmission issues if they conduct the activities above and their game currencies and/or digital assets are real currency or is “value that substitutes for currency.” The analysis of whether you are an exchanger usually surrounds the exchange event(s) and whether you are taking custody of the currencies and assets, or simply providing a technology service that allows the players to transact directly peer to peer.
What is “Value that Substitutes for Currency”?
“What qualifies as a substitute for currency is a facts-and-circumstances analysis. Several thousand years ago, cowry shells were once accepted as currency throughout the world. Similarly, people on the Island of Yap in the Pacific Ocean once used large limestone discs as a medium of exchange. Precious metals, such as gold, silver, and nickel have also served, and continue to serve in some parts of the world, as recognizable mediums of exchange.”
Money transmission concerns the movement of currency, or value that can substitute as currency. What qualifies as a substitute for currency is a facts-and-circumstances analysis. Several thousand years ago, cowry shells were once accepted as currency throughout the world. Similarly, people on the Island of Yap in the Pacific Ocean once used large limestone discs as a medium of exchange. Precious metals, such as gold, silver, and nickel have also served, and continue to serve in some parts of the world, as recognizable mediums of exchange. The most successful traditional gaming companies have creatively structured their offerings (e.g., Gold, Linden Dollars, V-Bucks) in a way that specifically emphasizes their lack of monetary value, to avoid this classification. However, we will see that potential issues may arise when we look at web3 games that operate under the principles of open economies.
“The most successful traditional gaming companies have creatively structured their offerings (e.g., Gold, Linden Dollars, V-Bucks) in a way that specifically emphasizes their lack of monetary value.”
Look closely at the terms of service of many of the largest traditional games and you’ll see that most game currencies (whether it be V-bucks in Fortnite or Robux in Roblox) are actually license agreements. In exchange for a fee, the company agrees to license to the player a limited, non-refundable, and non-transferable license to use the game currency to access game content, generally in the game only. The terms usually state that such in-game currency has no value in real currency and does not serve as a substitute for real currency (mirroring the language used by FinCEN). Further, the company does not have any obligation to exchange or redeem any in-game currencies for real currency at any time (unless required by law). The company usually has the right, in its sole discretion, to modify or terminate the player’s ability to use any part of the in-game currency or digital assets, with or without notice or liability to the player. Together, these terms enforce the position that the in-game currencies and assets don’t have monetary value nor utility beyond the gameplay itself, and thus, should not qualify as a substitute for currency. Contrast this to Q Coins (below), originally launched by Tencent to facilitate transactions in its digital businesses, which became so prolific with non-related third party vendors that it became used as a general medium of online exchange in China (i.e., a substitute for currency).
“Look closely at the terms of service of many of the largest traditional games and you’ll see that most game currencies are actually license agreements.”
Web3 on the other hand, is premised on the principle of open economies. In direct contrast to the above, where the in-game currencies are licensed to be utilized in game only, these crypto assets are designed to be owned by the players and are usually freely transferable on, off, and between games. These game assets can be fungible tokens (e.g., Illuvium’s ILV or Guild of Guardians’ GOG) or non-fungible tokens (NFTs such as Galactic game assets in Star Atlas or Blankos in Block Party). As a result, the more games or locations these game assets are accepted, the more they begin to look like value that substitutes as currency, specifically CVCs. We’re already starting to see more retailers start to recognize and accept crypto, as it goes more mainstream, e.g., retailers such as Gucci and Tag Heuer have started to accept Apecoin, Yuga Labs’ game token.
In the early 2000s, there was a lack of readily available online payment methods. In 2002, to facilitate online transactions in its digital businesses, Tencent launched Q Coins, virtual coins that could be purchased from brick and mortar stores, and used within the user’s QQ messaging account. Q Coins could also be earned as rewards from affiliated services, such as advertising supported games. Soon, businesses not affiliated with Tencent started accepting and transacting in Q Coins, as it was easier and cheaper to use than setting up their own payment systems. Q Coins quickly became the general online currency in China, being used to facilitate the purchases of physical goods to WoW game items. In 2007, seeing the proliferation of a private virtual currency that was increasingly being used in place of the Yuan, and beyond the control of the Central Bank’s monetary policy, the People’s Bank of China started putting in place strict limitations. Controls included volume limitations on the amount of virtual currencies issued by publishers and the amounts purchased by consumers, as well as the types of transactions that the virtual currencies could be used for, restricting them to being accepted for virtual goods and services provided by the companies that issued the currencies (i.e., walled gardens), etc. Violators of these rules would be subject to prosecution for financial crimes pursuant to China’s banking laws.
Non-Fungible Tokens (NFTs) are cryptographic assets on the blockchain that are unique and non-interchangeable. E.g., Everydays - The First 5000 Days by Beeple, Punk 8376, Angel Axie).
Non-Fungible Tokens (NFTs) in theory should be individually unique, and thus more difficult to use as a substitute for currency. That said, depending on the design, companies can inadvertently add fungible qualities to their tokens, in ways that may put them in the crosshairs of potentially becoming a CVC.
For example, if a single NFT is fractionalized enough times that each individual piece becomes fungible with one another, and thereafter traded on a liquid secondary market, then the corresponding fractionalized pieces have the potential to become a CVC. Further, ERC-1155 semi-fungible tokens used by companies to represent game assets, have the potential to trigger CVC considerations in the same manner as fungible tokens.
Traditional games generally emphasize the lack of real world monetary value of any in-game currency or asset. For this reason, most secondary markets for traditional games are not endorsed or supported by the game developers/publishers. In contrast, most crypto game assets have a liquid secondary market which directly displays and tracks the prices of the currencies and assets. Often, web3 game developers will undertake efforts to create and support a market for their game assets, by either applying for exchange listings and/or building marketplaces directly into their games. Marketplaces set the price of assets. In situations where the developers themselves are the ones facilitating such a market, they lose the argument that the assets do not have generally recognizable value. If the in-game currency or assets are thereafter used as a means of exchange in other games, platforms, or businesses (similar to Q Coins) etc., then there is increased risk that the asset is a CVC.
“Traditional games generally emphasize the lack of real world monetary value of any in-game currency or asset. In contrast, most crypto game assets have a liquid secondary market which directly displays and tracks the prices of the currencies and assets. Marketplaces set the price of assets.”
Given that most traditional games are designed to restrict the buying and selling of in-game assets or currencies for real money, unauthorized secondary marketplaces (e.g., Odealo, PlayerAuctions, or eBay) have stepped in to fill that market gap. These gray markets have infamously been known for listing assets from stolen/hacked player accounts, the use of fake product codes, and spamming entire realms with ads. To combat this (amongst other reasons), some games have built their own marketplaces. For example, in 2015, Blizzard introduced the World of Warcraft (WoW) Token, a creative way to unlock some of that value for players, especially those that had accumulated significant gold holdings. Players buy the WoW Token with real money, which can then be sold via the Auction House for gold (the price is determined by supply and demand). Players can buy or sell WoW in-game assets and services for gold. Players that purchase the WoW Token via the Auction House can redeem it for 30 days of game time ($15/month) or $15 of battle.net credit. Designed this way, Blizzard is able to keep gold within the game and avoid the direct pricing of gold (both elements reducing the risk of money transmission), while still providing additional utility for such gold (adding value to its players).
In 2015, Blizzard introduced the World of Warcraft (WoW) Token, a creative way to unlock some of that value for players, especially those that had accumulated significant gold holdings. Players buy the WoW Token with real money, which can then be sold via the Auction House for gold (the price is determined by supply and demand). Players can buy or sell WoW in-game assets and services for gold. Players that purchase the WoW Token via the Auction House can redeem it for 30 days of game time ($15/month) or $15 of battle.net credit. Designed this way, Blizzard is able to keep gold within the game and avoid the direct pricing of gold (both elements reducing the risk of money transmission), while still providing additional utility for such gold (adding value to its players).
Diablo III also attempted to create an Auction House to make it safer for players to play and trade all within the game, allowing players to put items up for auction, bid, and trade out for in-game gold or real currency - for which Diablo III took a small transaction fee. The Auction House was quickly shut down, as it made it too easy to get game items. Other games like Runescape and Roblox have long supported in-game marketplaces (Grand Exchange, and The Developer Marketplace or Avatar shop, respectively), where game assets can be traded standalone or with some combination of in-game currencies. Second Life had such a thriving economy, with the medium of exchange being Linden Dollars, that at times, its GDP surpassed that of several nations in the world. In the first instance, it is likely that these games have structured both their in-game currencies and assets to not have real world value, and thus, would not trigger money transmission issues. In the second instance, the companies, such as Linden Labs, have obtained licenses or are relying on third party licensed services to facilitate the money transmission activities.
Roblox has millions of developers across more than 170 countries in the world building and operating experiences and creating and selling avatar items, as well as the tooling to facilitate the same. In exchange, Roblox allows these developers to earn and redeem Robux through a Developer Exchange Program (DevEx) for real currency at a fixed exchange rate ($0.0035 per earned Robux). Such cash-outs are subject to restrictions such as frequency of redemption (once a month), account verification, and a terms of service setting forth developer requirements. Roblox has partnered with a licensed payment processor, Tipalti, to process the DevEx payments. It has also partnered with Veriff to verify identification information for such payments and to access certain social features and age-appropriate content. Interestingly, while there were 1.7MM developers who earned Robux on the platform in 2021, only 5,500 actually exchanged Robux for real currency, meaning that most users actually kept the Robux on platform. During 2021, over half a billion dollars of fees were generated through DevEx.
Sweden-based MindArk’s Entropia Universe is a massively multiplayer online role playing game (MMORPG) with a real cash economy. It even has a real bank licensed by the Swedish Financial Supervisory Authority, allowing it to provide banking services in game. Entropia has a virtual currency called PED, and it has a fixed exchange rate of 10 Project Entropia Dollars (PED) to 1 USD, allowing users to both deposit and withdraw PED for real currency. Some of the gaming industry’s largest asset sales to date have been Entropia assets (Planet Calypso sold for $6MM). Through Utrust, a company licensed in Estonia to provide exchange services, the company also allows users to deposit crypto into their Entropia accounts. For a brief moment, it had cards that allowed players to withdraw real world currencies at ATMs. The program was dropped when Mastercard dropped the card’s financial institution due to regulatory concerns.
It is important to remember that recognizable value for an asset is just one factor in determining whether an asset is convertible. While having a liquid market that prices that asset certainly can increase the risk of it having real world value (especially if denominated in fiat), it is only one part of the analysis. Other considerations include whether the asset or virtual currency is accepted by other parties and businesses and whether it has generally accepted value as a substitute for currency (i.e., has value beyond the player pool of any given game or marketplace).
Hosted and Unhosted Wallets
In the blockchain context, CVCs are cryptocurrencies or tokens that are held and accessed through digital wallets. Wallets can be unhosted (also known as self-hosted wallets) if the player controls his or her own private keys, or “hosted,” if the game or a third party that facilitates money transmission activity controls the player’s private keys. Where a gaming company facilitates a marketplace between unhosted players, there is an argument that the gaming company is simply providing a technology service, and not the money transmission activity itself. In situations where there are multi-signature wallets involved (i.e., where more than one signer is needed to effect a transaction), FinCEN will look at which party has effective control. In situations of multi-signature unhosted wallets where a developer is merely asked to participate in the transaction by providing additional validation, but the ultimate value and control belongs to and is stored in the player’s wallet, the developer will not be considered a money transmitter.
“Where a gaming company facilitates a marketplace between unhosted players, there is an argument that the gaming company is simply providing a technology service, and not the money transmission activity itself.”
Hosted wallets can provide a more seamless user experience for players, especially if they’re new to blockchain. We’ve all heard the horror stories of lost and stolen private keys, hard drives, and ledgers, to the tune of millions, if not billions of dollars. By storing private keys and 12-word seed phrases for the player, you can reduce onboarding friction and the headaches of forgetting private keys by assisting in password recovery. That said, the more control you have over a player’s wallet, the more likely it will be considered money transmission activity (the power and ability to direct funds). There is a natural and unfortunate tension between reducing friction in game and reducing money transmitter obligations.
One solution is to deploy a multiparty computation solution by splitting the private key into two parts, one held by the developer, and one held by the player. Similar to the multi-signature analysis above, courts will look to which party maintains control. A framework can be designed to allow the player to maintain control, but still allow the developer to help recover a player’s lost keys. Other up and coming options may be to deploy social recovery techniques such as Argent. Lastly, as account abstraction, the concept of separating the signer and the account (as compared to Externally Owned Accounts, e.g., current day Metamask or Ledger, in which the signer/private key holder and wallet/account are one and the same), becomes more developed, we’ll see more permutations of maintaining convenience as well as self-custody control.
Decentralized Finance Applications
Decentralized Finance (DeFi) is the peer to peer management of money or tokens (inclusive of investing, saving, borrowing, lending, etc.) on the blockchain without a reliance on traditional intermediaries such as banks, brokerages, and exchanges. E.g., Uniswap, Curve, Aave.)
As web3 games become more sophisticated, we’ll undoubtedly see more Decentralized Finance (DeFi) features be added. Being able to take advantage of crypto specific features is one of the most exciting elements of deploying a game on the blockchain. A simple example may be to stake your governance tokens to earn in-game currency. A more complex example may be to stake your governance and in-game currency tokens to earn a high powered NFT sword, which can then be used to kill enemies earning higher in-game rewards. An alternative may be the ability to put up some tokens as collateral to borrow the sword from another player or liquidity pool and revenue share back the earnings from the fruits of the sword. Burn or return the NFT sword to unlock the governance and in-game tokens. This is a similar mechanic that DeFi protocols like Curve or Uniswap use to bootstrap liquidity.
“As additional features are added to a game, it is important to examine each game mechanic individually to assess whether it may inadvertently trigger any additional regulatory considerations.”
As additional features are added to a game, it is important to examine each game mechanic individually to assess whether it may inadvertently trigger any additional regulatory considerations, especially if it changes the way currencies and assets are custodied within the game. As a rule of thumb, whenever you, as the developer, are taking custody of someone else’s assets, whether it be fungible tokens or NFTs, you should analyze whether or not the assets are CVCs and whether you may be inadvertently conducting regulated money transmission activities. An example of the developer taking custody would be if the developer is managing and having control over the NFT liquidity pool noted above (as compared to providing the technology to facilitate a peer to peer transaction between the players).
Last, but not least, the Commodity Futures Trading Commission (CFTC) has jurisdiction over virtual currencies as a commodity. If any of the DeFi features incorporate derivatives, which are financial contracts that are based on the price of an underlying asset (e.g., futures, forwards, options, swaps), it can inadvertently trip up CFTC considerations and oversight as well (see Chapter II Fundraising, Securities Laws, and Web3 Gaming for more information). There is currently a proposed bill (The Digital Commodities Consumer Protection Act of 2022) that will give the CFTC jurisdiction over spot digital currency markets.
Exemptions to Regulated Money Transmission
There are several activities that are excluded from money transmission. For example, if you only provide the delivery, communication, network access used by a money transmitter (e.g., telcos), or the physical transport of currency or other substitute of value (e.g., armored cars). Further, payment processors that offer clearance and settlement or intermediary activities between two BSA regulated entities (e.g., banks) are excluded. There are two other exemptions that are relevant to gaming companies: the Integral Exemption and the Prepaid Access Exemption.
The Integral Exemption
You may qualify for the Integral Exemption if your business is different from the money transmission activity itself, and the money transmission is necessary for the business to operate. A leader of a mining pool that distributes CVCs that are mined by the pool to pool members would qualify for the exemption as the money transmission is integral to the operator’s business of coordinating the resources of the pool members. An argument could be made for a game that accepts fiat or CVCs in exchange for digital goods that also qualify as CVCs, in that the acceptance and transmittal of funds are integral to the sale of the digital goods or provision of gaming services (including the game itself in the case of free to play games).
Providers and Sellers of Prepaid Access
Providers of prepaid access are exempt from FinCEN’s definition of money transmitter and subject to the Prepaid Access Rule, a comparatively less onerous rule. Prepaid access covers electronic devices (e.g., gift cards) or other mechanisms that provide access to funds that have been paid for in advance and can be retrieved or transferred at some point. A provider of prepaid access is generally the entity in control of the program, and a seller of prepaid access is generally the retailer of the prepaid access device. This means that even if you qualify as a money transmitter, you are exempt under the Prepaid Access Exemption and assessed under the Prepaid Access Rule (i.e., subject to different requirements than a money transmitter).
Most relevant to gaming companies, prepaid access only covers real currencies, or funds or value of funds, and does not cover virtual currencies or substitutes of currency (e.g., CVCs), and as such, most gaming companies do not qualify for the exemption. That said, as a fallback, where they can, prudent gaming companies will still endeavor to structure their offerings to qualify for the Prepaid Access Rule.
I’m a Money Transmitter, Now What?
If you conduct money transmission activities, you would either need to (1) register as an MSB (at the federal level, and possibly state level, depending on the rules of each state), and follow the requisite rules and regulations, (2) use a third party that is registered as an MSB to provide the money transmission services, (3) qualify for an exemption, or (4) significantly reduce your business in the US.
Epic Games relies on PayPal, a registered MSB, to provide any money transmission services that may pass through its platform. Other companies, like Linden Labs (the creators of Second Life), require all of their users to go through KYC and have their own MSBs and licensed money transmitters like Tilia. There are several services offered by other licensed MSBs that provide APIs allowing games to accept fiat payments (via debit, credit, ACH and wire), convert to crypto like USDC, BTC, and ETH, and create and manage custodial wallets for players. They can also help facilitate payments to players and guilds. One-stop shops like Stardust (disclosure: I am an investor), integrate all of the above on the backend via services like Fireblocks (custodial wallet solution) and MoonPay (payment services, disclosure: I am an investor).
Office of Foreign Assets Control
The Office of Foreign Assets Control (OFAC) of the Department of Treasury decides which entities are off limits for any financial dealings on the basis of national security goals. They administer and enforce economic and trade sanctions against targeted foreign countries, regimes, terrorists and those that engage in activities that threaten the national security and foreign policy or economy of the US. Regardless of whether a person or business is subject to MSB regulations, all persons and companies in the US that have international dealings are subject to OFAC regulations.
OFAC publishes lists of sanctioned individuals, companies, and wallets that are prohibited on the Specifically Designated Nationals list (SND). Of note, OFAC recently sanctioned virtual currency mixer Tornado Cash in connection with illicit activity connected to laundering the proceeds of cybercrimes. Tornado Cash has facilitated the transactions of more than $7B worth of virtual currency since 2019. Yet, rather than specifying the bad actors, all Americans who may wish to use this automated tool while transacting online are being punished, the legal and constitutional ramifications of which are still unclear.
Don’t want OFAC on your case? Be aware of these lists and put controls in place to prevent the interaction (especially the acceptance or transmission of funds) with such entities. For web3 gaming companies, it is important to at a minimum, put in internal controls that geo-block certain geographies (e.g., Iran) and can flag and block certain SDN wallet addresses. OFAC violators are subject to strict liability and serious consequences, meaning ignorance is not an excuse, and could face criminal charges, ranging from fines to prison time up to 30 years.
“For web3 gaming companies, it is important to at a minimum, put in internal controls that geo-block certain geographies (e.g., Iran) and can flag and block certain SDN wallet addresses. OFAC violators are subject to strict liability and serious consequences, meaning ignorance is not an excuse, and could face criminal charges, ranging from fines to prison time up to 30 years.”
The Financial Action Task Force
FATF, is a global money laundering and terrorist financing watchdog that over 200 countries and governmental agencies look to for guidance. It has proposed several guidelines for the regulation of virtual assets (VAs), which are similar to CVCs, and virtual asset service providers (VASPs), similar to money transmitters. Notably, NFTs are not captured as a VA, unless they become a “representation of value” used for payment or investment purposes in practice. While FATF guidance is not binding on any member states, it has proven to be instrumental in influencing policy and regulation. As such, whether your company and its activities fall within the definition of VAs and VASPs is important to monitor, especially if the game has players and customers in multiple jurisdictions worldwide.
Money Transmission Activity Guide (CVC Context)
Money Transmitter Summary Flow Chart
Amy is an investment partner at DIGITAL and DAO Jones, where she invests in companies building at the intersection of entertainment, fashion, gaming, and web3.
Prior to becoming an investor, Amy was General Counsel of USDC and an attorney at Coinbase. She took over the reins as lead attorney for USDC when it was at $500MM in market cap and oversaw it until around $50B. Over the past few years, she spearheaded the creation of most of the processes and protocols governing the stablecoin and network. Amy has also structured and negotiated multi-million dollar deals for the world's leading private equity firms, and worked at companies like Paramount Pictures and Major League Baseball.