SEC Proposes New Custody Rules for Crypto Funds

The US Securities and Exchange Commission has proposed a new custody framework for registered investment advisers and regulated funds holding crypto assets. The rules would let advisers keep certain client and fund crypto themselves when no qualified custodian is available, while opening the custody market to state trust companies.

It is a proposal, not a final rule. The public comment period will remain open for 60 days after the proposal appears in the Federal Register. Its publication date was not confirmed in the available material.

Giving Advisers a Direct Route to Custody

The familiar image of crypto custody is a wallet held by an exchange or another specialist. The proposal adds a less conventional option: an adviser holding a client's crypto itself.

This would only be allowed under certain circumstances. Before doing so, an adviser must determine that no permitted custodian is available for the asset. It must repeat that determination quarterly, according to Commissioner Hester Peirce’s statement on the proposal.

That is a fallback rather than a general replacement for third-party custody. It may be most relevant when a newly launched asset has reached the market before traditional custodians can support it.

The label can still be misleading. Peirce said the proposal's use of “self-custody” does not mean investors control their own assets. She preferred “shelf-custody” because the adviser would still hold the crypto, just outside the structure of a permitted custodian.

Safeguards for Crypto Held by Advisers

Allowing an adviser to hold client crypto creates an obvious conflict. The party giving investment advice would also be responsible for safeguarding the assets, while its fiduciary duty to the client continues.

The proposal would require safeguards that reflect that added responsibility. They include:

• Expertise in safeguarding crypto assets
• Cybersecurity protections
• Annual reviews
• Internal reporting
• Account statements
• Disclosures to clients

The specific recordkeeping and audit provisions were not available in the verified material opened for this report. More detail may emerge during the public comment process or in the final rule.

The proposal also seeks to update financial statement audit requirements for advisers and broker-dealer custody services for regulated funds.

State Trust Companies Enter the Market

The other major change is a wider definition of who may serve as a qualified custodian. The proposal would allow state-chartered trust companies to hold crypto for advisory clients and regulated funds.

Before using one, an adviser or fund must have a reasonable basis, after due inquiry, to believe that the company is authorised by the relevant state banking authority. It must also have written policies designed to safeguard the assets. That check would be required before engagement and once a year afterward.

This matters because Peirce said few traditional permitted custodians currently offer robust services across a substantial range of crypto assets. Some may not serve a particular asset at all, while others may lack the technical expertise required to safeguard it.

Other Changes to Fund Custody

Crypto is the proposal's main focus, but it is not the only subject. The amendments would also adjust when regulated funds may use broker-dealers as custodians.

The proposal would exclude authorised discretionary trading from the Advisers Act custody rule in certain cases. Conditions would limit executions to designated client accounts and prohibit transfers to accounts controlled by the adviser or related people.

It would also create an exception to independent verification for an adviser that has custody only because of a standing letter of authorisation.

These changes still require a final rule. Under the SEC's October 1 proposal, registered advisers and regulated funds would gain a clearer path to holding crypto, but the adviser option would remain tied to a quarterly search for a permitted custodian.