Buttercoin wanted to be a Bitcoin exchange, but after being discouraged or outright rejected by over 76 financial institutions, it chose a different path.
Many virtual currency companies face similar obstacles. Even when the companies are properly licensed as money transmitters, banks still considered them too risky to work with. In some cases, banks with an existing relationship with a virtual-currency company abruptly shut down the company's accounts.
Some financial institutions "were sympathetic to us but in the current regulatory environment they weren't working with any other virtual currency businesses," says Bennett Hoffman, founder of Buttercoin. "That's the message we heard over and over."
But while Buttercoin was facing rejection in its mission to help consumers exchange cash for bitcoins, it found an unexpected audience warming up to it: foreign exchanges such as Shift Forex LLC. So Buttercoin, based in Palo Alto, Calif., slipped out of the exchange business and into a new role as technology provider offering exchange as a service.
"We realized if we were to work with some of these companies that want to buy our exchange software we could take their regulatory and financial infrastructure and integrate it into the exchange," Hoffman says.
Buttercoin is trying to lock down relationships in the U.S. and Canada, plus several companies should be launching exchanges in Brazil and Hong Kong this month, says Hoffman.
"We sort of backed into this position and realized this was much more interesting and it also feeds into why the 'as a service' [industry] is very interesting," says Hoffman. "We can spin up many instances of our exchange technology that can be branded differently."
Buttercoin's approach also allows faster bitcoin transactions among its clients. Bitcoin was designed such that all transactions are recorded on a publicly accessible ledger called the blockchain. But because Buttercoin consolidates all transactions into a single secure vault system, moving bitcoins is an internal ledger process instead of a public blockchain process.
When transactions take place on the blockchain it takes longer to confirm, but off the blockchain transactions can be instantaneous.
Buttercoin's model is similar to that of Bex.io, which sells its exchange software as a service so entrepreneurs can focus on the financial services aspects of their business, such as compliance procedures and payment processing.
Buttercoin had a few warm responses from the financial institutions it approached. It was welcomed by Internet Archive Federal Credit Union, which also offered accounts to the bitcoin exchange Tradehill, says Hoffman. It may have been a wise move to turn the credit union down: shortly after Tradehill opened accounts with IAFCU, it ended the relationship and suspended operations, with both parties citing regulatory issues.
The Financial Crimes Enforcement Network issued guidance on virtual currency in March, categorizing administrators and exchangers as money services businesses. However, only a few states have published formal opinions on how they view virtual currency.
Because the regulations surrounding virtual currency are fragmented and still unclear, offering the exchange as a service could potentially allow Buttercoin to avoid some of the legal issues other companies face.
Buttercoin's lawyers have conservatively structured the business based on the prepaid card industry, Hoffman says. Buttercoin will be effectively under contract with existing licensed money transmitters, with the ultimate regulatory responsibilities falling on the client company, he says.
Companies interested in Buttercoin's service are smaller remitters that are "seeing declining profitability or drying up revenue streams as Western Union and PayPal squeeze them out of markets," Hoffman says.
Buttercoin offers its technology to clients for free, and splits revenue from transactions. Consumers that connect their bank account with the exchange pay trading fees for buying bitcoins and then withdrawing in real currency.
Bitcoin software "is a great way to upgrade these older or more traditional money transmitters and push them really far forward into another era of payments," says Pervees Faisal Islam, director of Centra Payments Solutions and a Bitcoin enthusiast.
Islam agrees that the Bitcoin protocol could help smaller remittance companies with its high-volume but low-margin business. Every remitter could have a proprietary Bitcoin platform which could pay out instantaneously, he says.
And international markets, especially third world countries with high numbers of underbanked consumers, have more reason to adopt Bitcoin, since the virtual currency could act as an alternative to conventional remittances.
The Bitcoin Foundation, a trade group, recently traveled to Washington D.C. to speak with Fincen, law enforcement officers and regulators about virtual currency. During the meetings, the foundation discussed the need for bitcoins among the underbanked.
Buttercoin is attempting to facilitate the use of virtual currency for companies that can handle the regulatory burden.
"The business of money transmission is one that not necessarily everyone can do; startups don't necessarily have the maturity to become money transmitters," says Islam. "It's a difficult process and an onerous one for a very specific reason because a state is saying to consumers we 100% trust this company that's transmitting your money."
Because a startup doesn't have a track record, Islam says, states can't make that good faith call, but that shouldn't be discouraging.
Buttercoin has developed front and back end software that focuses on the remittance industry. Focused software that fits a need for a specific market could get more industries interested in Bitcoin, Islam says.
"Regulation is a necessary component of something that is brand new," Islam says. "Consumers want to know someone is accountable. Regulation keeps providers in check so they don't mess it up or they're discouraged as much as possible to misuse people's funds."
The U.S. Securities and Exchange Commission recently sued a Texas man for allegedly operating a Ponzi scheme involving the digital currency, the Bitcoin Savings and Trust.
"Regulation never means full indoctrination or some kind of fascist rule," Islam says. "The government has never had full control over everything; they tried with the banks and the banks have done a fabulous job of going around it."
Instead the government is trying to set aside minimum requirements, he says.