The prepaid card industry has a lot to teach the companies that handle virtual currencies, as the Bitcoin economy begins to attract the same regulatory scrutiny prepaid cards received over the past several years.
Regulations affecting the prepaid card market include the Dodd Frank and the Durbin Amendment; and Regulation E. But regulators initially indicated they would take a less aggressive approach.
"Regulators made numerous comments about how they needed to let non-banks take the lead on developing technologically-sophisticated financial products to enable the U.S. to catch up to the rest of the world," says Jim Wells, principal at Wellspring Consulting International and evangelizer for prepaid products. "Many of us heard the words, welcomed the thought and waited for the inevitable drop of the other shoe."
Bitcoin, a prominent decentralized virtual currency, was launched in 2009 by Satoshi Nakamoto, a pseudonymous developer or group of developers. Until recently, the Bitcoin economy was thought to be unnoticed by regulators; in March, however, the Financial Crimes Enforcement Network issued guidance for virtual currency.
"As opposed to prepaid a dozen or so years ago, I do not sense that the regulators will give Bitcoin the same break from regulatory scrutiny as they did for prepaid, especially given its international structure and extensive non-bank involvement," says Terry Maher, an attorney with Baird Holm LLP in Omaha, Neb.
But there are similarities between the two markets. Like prepaid products, some of Bitcoin's key traits could be attractive for low-income consumers, who are often wary of bank fees.
"Bitcoin is advantageous because it offers free or basically free transactions across all borders," Wells says. "This could potentially benefit low-income consumers that don't want to pay the fees associated with credit, debit and prepaid cards."
Wells says regulators will likely tighten Know Your Customer (KYC) requirements and Anti-Money Laundering (AML) rule for prepaid card companies and Bitcoin businesses alike. Bitcoin businesses will also likely need also acquire state money transmitter licenses in the future.
It is still unclear whether this will help or hinder the Bitcoin ecosystem.
Another digital currency, ripple, is coming to market in May. OpenCoin, the company behind ripple, is headed by Chris Larsen, who previously founded the peer-to-peer lending company Prosper Marketplace.
Prosper, like prepaid cards and Bitcoin, caught regulators' attention early on. Larsen is using his experience with regulators as he brings ripple to market.
In the prepaid market, rapid growth sparked consolidation that accelerated after regulators weighed in.
"Consolidation is necessary to gaining scale, control and driving awareness," says Brad Hanson, president at Meta Payment Systems, during a panel discussion at SourceMedia's 25th annual Card Forum & Expo last week.
The Bitcoin ecosystem may need to consolidate as well.
Because most Bitcoin businesses are non-profits started by individual technologists, many companies don't have the means to deal with an estimated $10 million in costs for regulatory compliance. An ongoing pattern of hacks at Bitcoin exchanges has also exposed some of the problems inherent to keeping these businesses running.
"Most people can't get their heads around this concept yet, and, unfortunately, that includes all the federal financial regulators," Wells says. "As a result, [regulators'] easiest reaction is to criticize it as being inherently bad."