Key Takeaways
- The SEC has escalated its involvement in the cryptocurrency market, necessitating compliance from companies. Failure to comply can result in legal repercussions.
- The SEC’s actions are driving changes in the cryptocurrency landscape, particularly concerning ICOs and tokens. Tokens may still be deemed securities, regardless of utility labels.
- The Howey Test, introduced by the SEC, plays a crucial role in categorizing assets as “investment contracts,” affecting fundraising and regulatory engagement for blockchain projects.
As distrust towards traditional government-issued fiat money increases, the rise of cryptocurrency market and assets can be seen. However, in times like these, one can also see the U.S. Securities and Exchange Commission (SEC) exceedingly getting involved in regulating the landscape. Just recently, the commission responded with an interlocutory appeal when Ripple (XRP) won its lawsuit. In times like these, observing the reaction from the SEC has become crucial. Read on as we explore in-depth how the SEC has been acting in the crypto landscape.
The SEC’s Growing Involvement
In April 2022, SEC Chair Gary Gensler released a statement regarding the need for cryptocurrency exchanges to register with the SEC and to comply with applicable laws. Following this, SEC decided to expand its Cyber Unit and rename it the Crypto Assets and Cyber Unit to enhance enforcement efforts in the cryptocurrency space.
Following these notions, Gensler also outlined the agency’s commitment to enhancing regulatory oversight within the cryptocurrency market. He asserted that the majority of cryptocurrencies meet the “investment contract test” and should, therefore, be subject to existing securities laws.
The companies around the world have been complying with the rules set by the SEC. However, those that have not, received repercussions.
For instance, On September 7, 2023, The Securities and Exchange Commission (SEC) revealed that it had resolved legal allegations against Linus Financial, Inc. The charges pertained to the company’s failure to properly register its Linus Interest Accounts, a retail crypto lending product, prior to offering and selling it to the public.
Importantly, the SEC decided against imposing civil penalties on Linus Financial. This leniency was attributed to the company’s cooperation and its swift implementation of remedial actions. However, some companies that did not comply have been set for repercussions. On September 13, 2023, the SEC brought charges against Stoner Cats 2 LLC (SC2) for allegedly carrying out an unregistered fundraising campaign. This campaign involved the sale of crypto asset securities in the guise of non-fungible tokens (NFTs) and managed to gather a substantial sum of around $8 million from investors. The funds were intended to support the production of an animated web series known as Stoner Cats.
Anticipated Changes in the Cryptocurrency Market
As a result of the SEC’s enforcement actions, three major changes have come to the surface. Mainly, new tokens are now going to face increased regulation, and the SEC has taken a stance on tokens during the ICO boom. It has been emphasized by the SEC that Initial Coin Offerings (ICOs) deemed as securities are generally obligated to undergo registration with the SEC unless they meet specific registration exemptions. Moreover, tokens distributed through ICOs can be assigned various labels.
While these ICOs and their associated tokens may go by different names, classifying a token as a “utility” token or designing it to serve a particular utility function does not automatically exempt it from being considered a security in the eyes of the SEC.
Next, we have seen the Ripple lawsuit and how the SEC has reacted towards it despite the win. Moreover, the introduction of various blockchain tokens, such as DeFi and NFTs, is going to be subjected to securities laws.
In recent developments, we have seen the SEC bringing charges against two individuals from Florida and their offshore entity located in the Cayman Islands. The charges are related to the unregistered sale of securities valued at over $30 million, facilitated through smart contracts and the use of “decentralized finance” (DeFi) technology. Additionally, the SEC alleges that these individuals misled investors with regard to the operations and profitability of their DeFi Money Market business.
NFTs and Their Regulatory Future
SEC Chair Gensler has recently shown interest in NFT creators. In fact, since May 2022, the SEC has been investigating the NFT market for unauthorized crypto token sales. The regulatory body is examining whether certain assets in question may be categorized as securities. Moreover, legal experts from the agency have issued inquiries and subpoenas as part of their investigation.
SEC has also introduced the Howey Test, which serves as the pivotal determinant for categorizing an asset as an “investment contract,” making it subject to U.S. securities laws. It identifies the presence of an investment of funds in a collective endeavor, coupled with a reasonable anticipation of profits primarily from the work of others.
For blockchain and digital currency initiatives seeking financial backing, the Howey Test holds immense significance. It assists in determining whether certain cryptocurrencies and initial coin offerings (ICOs) can be classified as “investment contracts” within the scope of the test.
This classification can have substantial regulatory implications, impacting how these projects conduct fundraising and engage with investors and supporters. As such, the Howey Test remains a critical reference point in the evolving landscape of blockchain-based fundraising and digital asset projects.
Clarifying SEC’s Role in Crypto Regulation
SEC plays a crucial role in the U.S. and has, as such, taken action accordingly. For instance, on June 6, 2023, they took legal action against Coinbase, Inc. The SEC accused Coinbase of operating its cryptocurrency trading platform without proper registration, thereby functioning as an unregistered national securities exchange, broker, and clearing agency. Additionally, the SEC charged Coinbase with failing to register its crypto asset staking-as-a-service program.
Crypto’s Regulatory Evolution
All in all, the SEC has shown a willingness to collaborate with the cryptocurrency industry for the benefit of investor protection, but companies need to be vigilant. With an increasing number of regulatory settlements within the cryptocurrency space, the landscape continues to evolve, and users should stay informed.
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