Cryptocurrency Mining Industry Legal Compliance Guide (Part 1): Industry Overview and Compliance Challenges

According to the Notice on Further Preventing and Dealing with the Risks of Speculation in Virtual Money Trading issued by the Central Bank and other departments, and the Notice on Rectifying Virtual Money Mining Activities issued by the National Development and Reform Commission and other departments, engaging in Virtual Money ‘Mining’ activities within the territory of the People’s Republic of China is illegal and strictly prohibited. This industry and regulatory research in this article is based on the author’s global perspective. Readers are strictly required to comply with local laws and regulations and not to participate in any illegal financial activities.

The BTC mining industry has made significant progress in the past decade. Many mining companies have been favored by the capital market and listed. The cost of miners has also become an important factor supporting the value of BTC. According to a report by Allied Market Research, the global cryptocurrency mining hardware market is expected to reach 5.02035 billion US dollars by 2032, with a compound annual growth rate of 11.4% from 2023 to 2032. Although the Proof of Work (PoW) mechanism used by BTC has been widely questioned due to energy consumption and inefficiency, it is gradually being replaced by the Proof of Stake (PoS) mechanism (even Solana has introduced the Proof of History (PoH) mechanism to improve efficiency). However, it is undeniable that BTC, as the largest cryptocurrency in terms of market cap, BTC mining is still a profitable business, and the BTC mining industry will continue to develop for a long time in the future.

This series of articles hopes to provide practical legal advice for entrepreneurs and investors in the relevant field by combing through the entire chain of BTCMining and based on the observations of Lawyer Mankun on regulation.

Overview of Industry Analysis and Legal Risks

Next, Lawyer Man Kun will take the Mining Farm operator, commonly known as the “Miner”, as the “axis” of the middle part of the industry chain, to sort out the important participants in the upstream and downstream of the BTC mining industry, as well as the major legal risks that these participants may encounter during their operations.

Upstream

Energy supplier

In the process of BTCMining, both the operation of Mining Rig and the cooling system require huge amounts of electricity, and the cost of electricity is critical to operation. Generally speaking, Mining Farms tend to be built in areas with abundant fossil fuel resources, where energy suppliers can provide more affordable energy. Manquin Lawyers observed that the high energy consumption of BTCMining has gradually attracted attention in recent years. The 2024 Digital Economy Report released by the United Nations Conference on Trade and Development (UNCTAD) specifically mentioned that from 2015 to 2023, the global energy consumption caused by BTC ‘Mining’ rose by about 20 to 34 times. Some countries have taken measures to restrict or prohibit BTCMining in order to reduce energy consumption and environmental pressure. In response to this situation, many Mining Farms are beginning to choose suppliers of clean energy or invest in building their own renewable energy facilities to reduce their own carbon emissions in response to regulatory requirements.

Lawyer Mankun believes that energy suppliers face various legal risks when providing electricity for encryption mining. These risks include ensuring the legality and transparency of energy supply contracts, complying with environmental protection regulations, conducting necessary environmental impact assessments to reduce the negative impact of electricity production and use on the environment. In addition, suppliers need to ensure compliance with government-provided incentives for renewable energy to reduce operating costs. Cross-border energy suppliers also need to comply with the energy regulatory policies of various countries to avoid legal disputes and potential legal liabilities.

Mining Rig manufacturer

BTC Mining Rig is a specialized hardware device used for mining BTC. Mining Rig Mining requires powerful computing power, usually driven by specially designed ASIC (Application-Specific Integrated Circuit) chips that are optimized for specific Encryption Algorithms. Mining Rig manufacturers are companies specializing in the design and production of Cryptocurrency Mining equipment. These companies produce devices (such as ASIC Mining Rigs) that are optimized for specific Encryption Algorithms, providing efficient Computing Power to verify blockchain transactions. Major manufacturers include Bitmain, Canaan, MicroBT, Innosilicon, Ebang International, etc., which occupy important positions in the global market.

Now, the manufacturing of Mining Rigs has formed a considerable industry barrier, with several mainstream Mining Rig manufacturers occupying the majority of the market share. It is worth noting that many of these outstanding manufacturers have emerged from China. The manufacturing of Mining Rigs is a relatively mature sector in the entire mining industry chain. As a chip manufacturer, the compliance points in business are the same as other chip manufacturers, such as ensuring that designs and technologies are not infringed upon, protecting their own intellectual property rights; Mining Rig products need to comply with technical standards; the import and export of Mining Rigs must comply with the regulations and tariff policies of various countries to avoid legal disputes and economic losses, etc. In addition, Mining Rig manufacturers need to consider the different attitudes towards Mining Rig sales contracts in different jurisdictions, such as in mainland China, where Mining Rig sales contracts may be deemed invalid due to violations of relevant laws and regulations. Effective management of the above-mentioned legal risks is required to ensure the compliance and stability of company operations.

Mining Farm design, construction, and maintenance service provider

The efficient operation of the Mining facilities depends on professional technical support services. Companies providing these services play an important role in ensuring the stability of Mining. Mining Farm design companies are responsible for planning and constructing BTC Mining Farms, ensuring that Mining Farms have efficient and safe operating environments. Their design plans must comply with building codes and safety standards, including key facilities such as power supply, cooling systems, and network connections. Construction companies are responsible for the actual construction work, ensuring engineering quality and compliance. These companies help Mining enterprises achieve large-scale and efficient operation, reduce operating costs, and improve the overall efficiency and safety of Mining Farms by providing professional design and construction services.

In terms of Compliance, the design party must ensure compliance with building codes and safety standards to avoid legal liability resulting from design defects. The construction party must comply with laws and regulations regarding construction, including environmental protection and labor laws, to ensure Compliance during the construction process. During the construction process, the contract should stipulate the rights and obligations of both parties, and the facility construction must meet the agreed standards and requirements to avoid legal disputes arising from contract issues. In addition, attention should also be paid to intellectual property rights and contract Compliance to ensure that the technology and contract content do not infringe upon the rights of others.

Software Service Developer

Software service providers are companies that develop specialized software platforms to help Miners and Mining Farms manage mining equipment, monitor work status, and optimize mining performance. These software programs can monitor the operation status of Mining Rigs in real-time, adjust mining parameters, and improve overall mining efficiency. The main developers of such software include Minerstart and Hive OS. Although most ASIC Mining Rigs on the market are pre-installed with mining software specifically designed by Mining Rig manufacturers, professional software provided by developers can help Miners more easily complete tasks such as equipment monitoring, workload management, and performance optimization, improving mining efficiency and earnings.

Midgame

Mining Farm Operator

BTCMining Farm is a place specifically designed for large-scale BTCMining. By operating a large number of Mining Rigs, it achieves economies of scale and reduces the cost of computing power per unit. The construction of a Mining Farm needs to consider factors such as power supply, cooling systems, and network connectivity to ensure the efficient operation and stability of Mining Rigs. Mining Farms are usually located in areas with low electricity costs and suitable environments to reduce operating costs.

Some well-known Mining Farm operators include Riot Platforms, Marathon Digital Holdings, Bitfarms, etc. These companies establish and operate large BTC Mining Farms worldwide, typically located in areas with abundant and low-cost electrical resources to optimize operational costs and mining efficiency.

However, the operating costs of Mining Farms include not only electricity costs but also opportunity costs, including political factors. In 2021, China issued relevant policies (Notice of the National Development and Reform Commission and other departments on cleaning up the ‘Mining’ activities of Virtual Money) to crack down on Virtual Money Mining activities. The center of the mining industry shifted from the East to the West. North American investors find it easier to enter this industry than ever before. In the past two years, new long-term followers and capital have poured into this field at an unprecedented rate. As more and more jurisdictions establish regulatory frameworks and even launch policies to protect the business environment for investors, BTC’s Computing Power has never had such a broad global footprint. It is expected that BTC Computing Power will continue to spread continuously worldwide. Now, Miners around the world are well aware that they not only compete with their neighbors, but also face Miners in the booming encryptionMining industry in the Middle East, as well as in Russia, Latin America, and other regions. Each region and background has its advantages and disadvantages. Some Miners spread their Computing Power to different jurisdictions to diversify risks. The global location selection of Mining Farms has become the biggest risk factor in setting up Mining Farms. Operating Mining businesses in countries and regions with unstable policies requires great risk costs. If the regulatory policy of the location of a Mining Farm suddenly changes, the huge migration costs can destroy a small Mining Farm. In addition, legal risks such as environmental protection regulations and Compliance on electricity use need to be fully managed to ensure the legal and sustainable operation of Mining Farms.

Downstream

Mining Pool service provider

When a single Miner is independently Mining, the time and Computing Power required to find a Block are very high. Connecting Computing Power to a Mining Pool has become the choice of many individual Miners. In this way, Miners with lower Computing Power can also regularly receive part of the Mining rewards, instead of waiting for long periods of independent Mining results. The top three Mining Pool operators in terms of total Computing Power in the network are Foundry USA, F2Pool, and Antpool. These three Mining Pool operators contribute to more than half of the total Computing Power in the BTC network.

Mining Pool service providers face various legal risks. Anti-Money Laundering (AML) and Know Your Customer (KYC) regulations require ensuring participant identity verification and transaction transparency. Data privacy and security regulations must also be complied with, necessary measures should be taken to prevent Hacker attacks, and legal risk control plans should be designed to protect user data from unauthorized access and use.

Mining Rig Hosting Service Provider

Mining Rig hosting services provide convenience for users who own Mining Rigs but lack operational facilities. Hosting service providers have professional Mining Farms, professional technical maintenance personnel, stable and inexpensive power supply, and other conditions. Users can host Mining Rigs in professional Mining Farms by paying hosting fees. The hosting service provider is responsible for the power supply, cooling, maintenance and other work of Mining Rigs, ensuring efficient operation and stable mining income. Many well-known Mining Farms have launched Mining Rig hosting services, such as Riot Platform and Bitmain. The advantage of hosting services is to reduce users’ operating costs and management complexity, and lower their entry barriers. Of course, there are several different operation modes involved in specific Mining Rig hosting, such as general hosting, cloud hosting, membership hosting, etc. Due to space limitations, this article will not elaborate on them.

In addition to the legal risks faced by the Mining Farm itself, the Mining Rig hosting operator may face longer legal issues: the legality of the hosting contract, the allocation of responsibilities and rights among all parties; timely and effective technical support and maintenance when equipment failure or damage occurs; equipment insurance issues, and how to handle accidents that occur to customer’s Mining Rig; Local legal and regulatory requirements for hosting services, etc. All these are legal risk points that Mining Rig hosting service providers need to pay attention to.

Cloud Mining service provider

Due to the considerable construction and electricity costs required by BTCMining, as well as the impact of legal and regulatory policies, many individual investors will turn to leasing Cloud Mining for Mining participation. Cloud Mining service providers independently construct Mining Farms or deploy Mining Rigs in other data centers, and users can lease the Computing Power of these Mining Rigs for Mining. In essence, users obtain a certain share of Computing Power by paying rent, and receive Mining rewards based on the proportion of Computing Power contribution. The advantages of these services lie in their flexibility and low cost, as this model reduces the entry barrier for individual users while increasing the efficiency of Computing Power utilization.

The mainstream BTC cloud Computing Power service providers include Bitdeer and NiceHash, etc. The operating model on the demand side usually involves users renting a certain amount of Computing Power and distributing it based on the Mining revenue during the lease period. On the supply side, it can be divided into self-owned Computing Power leasing and third-party Computing Power markets. Self-owned Computing Power leasing refers to service providers using Computing Power generated by their own Mining Rigs as commodities for leasing, while the third-party Computing Power market is a service where service providers connect surplus Computing Power from third-party Miners with the Computing Power demand of tenants.

For Cloud Mining rental service providers, there are three main Compliance points to consider: the legality of Computing Power, the legality of funds, and the legality of Cryptocurrency. The AI boom has driven the popularity of Cloud Mining leasing services in a broad sense. The United States has implemented several policies restricting the flow of Computing Power to Chinese enterprises. Consequently, many foreign vendors choose to provide Computing Power leasing services to Chinese enterprises in international waters to avoid US export restrictions or technology blockades. The cross-border issues of Computing Power require consideration of the legal provisions of different countries or regions regarding Computing Power. Specifically for Mining Computing Power, although it does not involve the ban on AI computing chips, it is still worth the attention of Cloud Mining rental service providers. In terms of the legality of funds, companies should ensure that they are aware that the funds used by their customers to purchase Computing Power are from legal sources, in order to avoid potential risks of Money Laundering. Of course, whether this awareness is a legal obligation is still a matter of debate. As for the legality of Cryptocurrency, conducting business in countries and regions where the circulation of Cryptocurrency is prohibited may face greater legal risks. For example, conducting related business in China may lead to the contract being deemed invalid due to violations of laws and regulations.

encryption mining ecosystem fund

As the BTC mining industry matures, BTC ETF funds have been approved in various jurisdictions to open up compliance channels, and more and more traditional financial institutions are paying attention to investment opportunities in the BTC mining industry. In May 2024, the licensed institution in Hong Kong, Bitcoin Mining Eco Investment SP, officially launched the BTC Mining Eco Fund, which includes investment structures such as purchasing mining rigs, hosting mining farms, joint operations and maintenance, hedging, and cashing out mining rigs. Investors participate in the BTC mining business through subscription to the fund. This long-term investment strategy not only reduces investment risks but also provides a stable source of income. The successful launch of the BTC Mining Eco Fund marks the deep integration of TradFi and the cryptocurrency mining industry. It is believed that in the near future, as the BTC mining industry receives more and more attention, becomes compliant, more and more financial institutions will join the layout, and various investment products based on the BTC mining industry will be launched one after another.

Industry Regulatory Trends

2024 is a significant year for BTC. On January 10th, with a public announcement from the Securities and Exchange Commission (SEC) of the United States, 11 BTCSpotETFs were officially approved for listing on the American securities exchange, marking a further acceptance of BTC in the TradFi world. On April 20, 2024, the BTC blockchain will experience its fourth Halving. Looking back at history, Halving events often bring about a wave of bankruptcies, insolvencies, and restructurings for encryption enterprises. Companies that complete debt restructuring will emerge stronger when the next spring arrives. However, there is no doubt that after more than a decade of development, the internal operations of the BTC mining industry have become more transparent and mature compared to the past.

Especially in recent years, new Mining Rigs and Mining technologies have emerged continuously, and the use of immersion cooling technology and efficient Mining Rigs has gradually become popular in the industry. BTC mining companies have made great progress in the efficiency and security of Mining. As global attention to environmental protection increases, the Mining industry is also exploring more environmentally friendly and sustainable development models, such as increasing the proportion of renewable energy use and reducing carbon footprints. Many mining companies have begun to expand their business scope and integrate the industrial chain for development. It is not uncommon for listed mining companies to play multiple roles in the aforementioned industrial chain. The maturity of the entire industry has gradually attracted the attention of Financial Institutions, exploring opportunities such as encryption mining ecological funds.

Meanwhile, regulatory policies on CryptocurrencyMining are constantly changing globally. In a vivid description in a report in 2021, the encryptionMiners are like ‘nomads’, facing intense competition and seeking politically stable electricity prices ‘oases’ globally, thereby making their Computing Power more competitive in the encryption market. Observing the global distribution of Computing Power, after 2021, the global center of Computing Power shifted from China to North America and Europe. Additionally, countries such as Kazakhstan, Russia, Latin America, and the Middle East are catching up, continuously increasing their Computing Power.

Lawyer Mankun believes that the encryptionMining industry plays an indispensable role in the blockchain ecosystem. By analyzing the main participants, Lawyer Mankun can better understand the operation mode and future development direction of this industry. Looking ahead, with technological advancements and changes in the regulatory environment, the Mining industry will encounter more long opportunities and challenges. Compliance management will become the key to the success of enterprises, providing security for the long-term development of enterprises. Next, Lawyer Mankun will start a special writing on legal analysis of the encryptionMining industry, deeply analyzing the legal risks faced by the main participants, and providing Compliance advice for practitioners and investors in combination with industry and regulatory development trends.