Extracted from Law360
Marking an important milestone in the implementation of a new regime for payment stablecoins in the U.S., the Office of the Comptroller of the Currency recently issued a notice of proposed rulemaking as directed by the Guiding and Establishing National Innovation for U.S. Stablecoins, or Genius, Act.
The proposal, announced on Feb. 25, outlines rules governing issuance, interest payments, licensing, risk management, supervision and other matters involving permitted payment stablecoin issuers, or PPSIs, subject to the OCC's authority under the act.
The proposal is significant as the first articulation of the substantive expectations for stablecoin issuers by a U.S. regulator and because the OCC's final rule will be a key part of the federal regulatory framework against which state regulatory frameworks for PPSIs will be evaluated to determine whether they are substantially similar, as the rule puts it, to the federal framework.
Now that the U.S. Department of the Treasury has proposed rules detailing how "substantially similarity" will be assessed, and states like Georgia have begun to enact such framework laws, all eyes are on the OCC's framework.
The OCC's proposal will likely bring into sharp contrast differing views on the following issues:
- The act's prohibition against issuers' payment of "any form of interest or yield" to payment stablecoin holders, particularly as applied to indirect payments arising from third-party arrangements;
- Whether the OCC's three-buffer model of (1) reserves, (2) Tier 1-only capital and (3) an operational backstop is too restrictive; and
- The degree to which the act preempts state law, particularly in relation to the regulation of activities that directly support primary permissible activities, and how the federal and state frameworks for PPSIs may vary as a result.
Covered Issuers and Implementation Timeline
In accordance with the act, the OCC's proposed rules would apply only to those PPSIs and other covered entities that are subject to OCC authority under the act and other applicable law.
The act has a fast-moving timetable by design, taking effect on the earlier of Jan. 18, 2027, or 120 days after the primary federal payment stablecoin regulators (the OCC, the Federal Deposit Insurance Corp., the Federal Reserve, and National Credit Union Administration) issue any final rules implementing it.
Consequently, we expect the OCC to seek to issue final rules as soon as the third quarter or early fourth quarter of this year.
Permissible and Impermissible Activities
The act defines a payment stablecoin, in part, as a digital asset that the associated issuer is obligated to convert, redeem or repurchase for a fixed amount of monetary value. A payment stablecoin is one specifically used or designed for use as a means of payment or settlement, rather than for investment or other purposes.
Under the act, PPSIs are restricted to certain primary activities — issuing and redeeming payment stablecoins, managing reserves, and providing custodial or safekeeping services — and activities that directly support them.
The proposal tracks these primary activities and identifies activities that directly support the primary activities. For example, a covered PPSI may hold "non-payment stablecoin crypto-assets as principal necessary for testing a distributed ledger, whether internally developed or acquired from a third-party" because this activity helps ensure that the PPSI can "operate safely and effectively on a distributed ledger," according to the proposed rule.
The OCC encourages covered PPSIs to ask the OCC directly if they are unclear about whether an activity directly supports the primary activities.
These direct-support permitted activities may prove to be an important area of distinction between the OCC and other PPSI regulators. Issuers who have a choice in choosing their regulator will want to pay close attention to how the proposal's direct-support activities compare to those in other available regulatory regimes.
This analysis should address the degree to which such direct-support activities will be recognized as permissible in other PPSI regimes, or instead will require formal or informal guidance, or even registration or licensing, by another authority.
Among other impermissible activities, covered PPSIs would not be permitted to pay a stablecoin holder any form of interest or yield solely in connection with the holding, use or retention of the stablecoin.
As this is one of the most significant restrictions on PPSIs, the proposal seeks to prevent so-called backdoor yield or rewards, by presuming that a covered PPSI is paying interest or yield to a holder if it has a contract, agreement or other arrangement with an affiliate or related third party to pay interest or yield to the affiliate or related third party; and the affiliate or related third party, or an affiliate of a related third party, has a contract, agreement or other arrangement to pay interest or yield to a holder of any payment stablecoin issued by the covered PPSI solely in connection with the holding, use or retention of the payment stablecoin.
While banks will likely welcome this presumption, and some have already asked the OCC to go further in protecting against workarounds to the prohibition, it may be viewed by issuers as stifling arrangements that enable them to compete with banks and to provide consumers, merchants or others with stablecoin services.
Reserve Requirements
Consistent with the act, the proposal would require each covered PPSI to maintain identifiable and segregated reserve assets with a total fair market value that always equals or exceeds the outstanding issuance value of the covered PPSI's payment stablecoins.
Reserves would be required to be held either directly by the covered PPSI or with an "eligible financial institution" (generally, federally insured depository institutions that adhere to certain requirements and Federal Reserve Banks). Covered PPSIs would also need to be able to promptly monetize reserves.
Together these requirements reflect the view embodied in the act that redemption credibility is central to financial stability and market confidence in stablecoins.
Permissible reserve assets would be limited to highly liquid, low-risk instruments, including U.S. currency and Federal Reserve Bank credit balances, demand deposits and insured shares at insured depository institutions, short-term U.S. Treasury securities, certain overnight repurchase and reverse repurchase agreements collateralized by short-term Treasurys, and government money market funds invested solely in these qualifying assets.
Tokenized versions of these assets would be permitted if they otherwise meet the rule's requirements.
To address concentration and interest rate risk management of reserves, the OCC requested comment on two alternative diversification regimes: (1) a principles-based standard featuring optional quantitative safe harbor limits; and (2) mandatory quantitative limits.
The OCC explains that while a diversification regime composed of discrete quantitative limits would remove issuer flexibility, it would be more straightforward and transparent than a principles-based approach.
Under both proposed regimes, covered PPSIs would be required to maintain minimum levels of daily and weekly liquidity, limit exposure to any single institution, and cap the weighted average maturity of their reserve portfolios at 20 days; and larger issuers (those with $25 billion or more in outstanding payment stablecoin issuance) would be required to hold a modest portion of their reserves as federally insured bank deposits or credit union shares.
This last requirement may be seen as less about liquidity (as Treasurys already provide that) and more about anchoring large stablecoin balances inside the insured banking system.
If reserves fall below required levels on any day, automatic remediation measures apply. Covered PPSIs would be required to notify the OCC and cease net new payment stablecoin issuance, and if deficiencies persist, begin orderly liquidation and redemption without charging fees.
Redemption
The proposal also includes a prescriptive framework governing redemption. The OCC explains that it is critical that each covered PPSI satisfy its redemption obligations in a timely manner to maintain confidence in that covered PPSI and in the stablecoin industry.
Further, as specified in the act, each covered PPSI would be required to redeem any amount equal to or greater than one payment stablecoin, subject to appropriate customer screening and onboarding,
Each covered PPSI would be required to disclose a clear redemption policy, including the time frame for redemption — not to exceed two business days — and the process for submitting redemption requests.
The proposal also addresses redemption during periods of market stress by establishing an automatic, nondiscretionary mechanism extending the period within which any requested redemption must be completed.
According to the OCC, this extension is intended to allow orderly liquidation of reserve assets to reduce so-called fire sale risk and potential contagion — addressing both direct risks to the covered PPSI and to the financial system generally — while preserving a defined and enforceable redemption right.
Capital Requirements
Prior to the proposal, market discussion of the act generally emphasized reserve backing and asset restrictions as the primary stability mechanism, with capital expectations described at a high level. The proposal clarifies that capital will play a more substantive role than some stakeholders may have anticipated, akin to its role in the regulation of banks.
The proposal would require that covered PPSIs maintain minimum capital levels tailored to their business models and risk profiles, including an individualized minimum capital requirement set during the licensing or chartering process, with a floor of $5 million for new covered PPSIs, which will typically apply during the first three years of operation or transition to OCC supervision.
While the OCC notes that it is considering more prescribed capital requirements tied to issuance value, risk-based valuation of reserve assets, or other factors, the OCC indicates that it prefers the more flexible, principles-based approach reflected in the proposal.
Qualifying regulatory capital would need to consist of common equity Tier 1 or additional Tier 1 capital, but excluding Tier 2 capital, each as defined under OCC regulatory capital rules.
The OCC's decision to limit capital to Tier 1 instruments reflects its view that PPSIs should rely on high‑quality equity capital to absorb operational and governance risks, rather than on debt‑like instruments designed primarily for loss allocation in resolution.
The OCC noted that it may adjust capital requirements as the industry evolves and notes its view that risk exposures for covered PPSIs are also addressed through other means, such as reserve asset quality and diversification requirements.
According to the OCC, this generally aligns with capital adequacy expectations for uninsured national trust banks.
Following the de novo period, each issuer would be required to maintain capital adequacy based on its own assessment of its operational history and risk.
However, the OCC could impose additional capital requirements if the issuers' internal assessments are found deficient or if their risk profile changes significantly, including, if necessary, a remediation plan.
Operational Backstop Requirements
In addition to its stablecoin reserves and minimum regulatory capital, to provide sufficient liquidity if there is an operational disruption, covered PPSIs would also be required to maintain what's called an operational backstop — a pool of highly liquid assets equal to the issuer's total expenses over the previous 12 months, calculated quarterly and kept separate from reserve assets, assets satisfying regulatory capital requirements, and the issuer's other assets.
The OCC could increase operational backstop requirements commensurate with the covered PPSI's business model and risk profile. The operational backstop is noteworthy because it introduces a third, ring‑fenced liquidity buffer — distinct from reserves and capital — effectively treating operational disruption as a first‑order prudential risk.
Because the operational backstop is calibrated to an issuer's annual operating expenses rather than the value of stablecoins outstanding, it may prove unexpectedly costly for issuers with complex, technology‑intensive or rapidly scaling operating models.
If a covered PPSI fails to meet requirements for two consecutive quarters, it would also be required to begin liquidating its reserve assets and redeeming its outstanding stablecoins, and it would be prohibited from charging customers a fee for redeeming their stablecoins.
Conclusion
The emerging PPSI regime is taking shape through multiple, concurrent federal and state efforts. Market participants should expect their future compliance to be shaped as much by how these pieces interact as by any single PPSI framework.
The OCC's final rule will be a key part of the federal benchmark against which state PPSI frameworks will be judged for substantial similarity.
The proposal's approach to direct-support activities, preventing backdoor yield, and its three-buffer prudential model are therefore critical to consider.