Hurtado, supra note 23. (2018). Though the SEC “trie[s] to pursue cases that deliver broad messages and have market impact beyond their own four corners,”64×64. Oct. 5 2018). §§ 78a–78pp. SEC Announces “Framework for ‘Investment Contract’ Analysis of Digital Assets ... SEC Announces “Framework for ‘Investment Contract’ Analysis of Digital Assets ... Further, this framework does not replace or supersede existing case law, legal requirements, or statements or guidance from the Commission or Staff. Rev., Sept. 2017, at 55, 58. Both documents are pre-requisite reads in order to get the full context of … 9 0 obj But this approach leaves the majority of the industry in the lurch. The framework may be the SEC’s attempt to speak to judges more than to market participants as cases like those involving Kik and Blockvest reach maturity. In that sense, the SEC’s framework may be more about guiding judges’ analysis in future litigation than providing tools for an average market participant to evaluate her digital assets. See SEC v. Edwards, 540 U.S. 389, 393 (2004) (“Congress’ purpose in enacting the securities laws was to regulate investments, in whatever form they are made and by whatever name they are called.” (quoting Reves v. Ernst & Young, 494 U.S. 56, 61 (1990))). See Reuben Grinberg, Bitcoin: An Innovative Alternative Digital Currency, 4 Hastings Sci. 18-cv-2287, 2018 WL 6181408, at *7 (S.D. at *1–2. at 5 (emphasis added). 9, 2019), https://medium.com/@BlockchainAssoc/the-token-taxonomy-act-is-back-and-we-need-it-more-than-ever-d2cbf0154776 [https://perma.cc/FX5Q-DYBD]. See generally id. The SEC’s guidance in the past suffered from internal ambiguity. Acknowledging the important nomenclature difference in a Senate hearing, SEC Chairman Jay Clayton stated: “I want to go back to separating ICOs and cryptocurrencies. SEC v. Blockvest, LLC, No. Thus, the Securities Act of 193312×12. 18-cv-2287, 2019 WL 625163, at *1 (S.D. But it is unclear how the typical startup should heed that warning as the ICO space has been burdened with regulatory ambiguity since its inception. Zaslavskiy started off his ICO scheme with REcoin, marketing it as “The First Ever Cryptocurrency Backed by Real Estate,”24×24. (July 1, 2018, 1:26 PM), https://www.wsj.com/articles/what-crypto-downturn-ico-fundraising-surges-in-2018-1530466008 [https://perma.cc/NN27-NX9A]. were not securities.36×36. clarity will be crucial. “Get your act together”: this was the pointed message that the Chairman of the Securities and Exchange Commission (SEC) delivered in a November 2018 interview to any startup funded by an initial coin offering (ICO).1×1. its selective enforcement approach and nebulous guidance foreshadows intervention. The bill is specifically aimed at “exclud[ing] digital tokens from the definition of a security” in the Exchange Act and Securities Act.56×56. at 296. the Supreme Court articulated a test to determine if a financial instrument was an investment contract, and therefore a security subject to the Securities Act and the Exchange Act. Asset Digitization Apparently, it’s an analytical tool that will help ICO issuers sort out if they will do jail time or not. See United States v. Zaslavskiy, No. SEC Issues Historic No-Action Letter and Releases Framework for “Investment Contract” Analysis of Digital Assets. On April 3, 2019, the SEC announced the framework it would use to determine whether a digital asset would be considered an “investment contract” in light of the Supreme Court’s ruling in SEC v. W.J. Seward, supra note 1. Remarketer automated market making software and Managed Liquidity options. §§ 77a–77aa (2012). Blockchain and distributed ledger technology can catalyze a wide range of innovation. 3 0 obj See Nathaniel Popper, An Explanation of Initial Coin Offerings, N.Y. Times (Oct. 27, 2017), https://nyti.ms/2iGfts1 [https://perma.cc/PH8K-38BG]. As part of a continuing effort to assist those seeking to comply with the U.S. federal securities laws, FinHub is publishing a framework for analyzing whether a digital asset is offered and sold as an investment contract, and, therefore, is a security. For instance, when the SEC announced that it would apply the Howey test to tokens, the SEC’s press release title read: “SEC Issues Investigative Report Concluding DAO Tokens, a Digital Asset, Were Securities.”39×39. On April 9, 2019, Representative Warren Davidson reintroduced the Token Taxonomy Act in Congress with growing support and an expanded list of cosponsors.55×55. While the SEC’s framework marks progress in providing clarity, it is not a substitute for transparent legislation or judicial rulings to guide market participants. While this framework did not rise to the level of an official statement by the SEC, it generated a lot of excitement in the industry. But, again adding to the confusion and glossing over the regulatory nuances in the same Senate hearing, the Chairman unequivocally stated: “I believe every ICO I have seen is a security.”42×42. Luis Urbina, SEC Brings Enforcement Action Against Two Companies Related to Initial Coin Offerings, Covington (Oct. 10, 2017), https://www.covfinancialservices.com/2017/10/sec-brings-enforcement-action-against-two-companies-related-to-initial-coin-offerings/ [https://perma.cc/8TY4-YR8D]. SEC Releases Framework for “Investment Contract” Analysis of Digital Assets. Recently, the SEC’s Strategic Hub for Innovation and Financial Technology29×29. Investor Bulletin: Initial Coin Offerings, Investor.gov (July 25, 2017), https://www.investor.gov/additional-resources/news-alerts/alerts-bulletins/investor-bulletin-initial-coin-offerings [https://perma.cc/TD62-SQSZ]. For instance, the SEC served Kik, a secure messaging platform, with a notice stating that Kin, Kik’s token for in-app purchases, should have been registered — but Kik claims “that Kin is a currency, not a security,” and “does not need to be registered.”59×59. See, e.g., Mayweather, Securities Act Release No. This lack of backing likely contributes to the SEC’s fear of fraud in the ICO space.6×6. See William Hinman, Dir., Div. This framework is promising because it illustrates that the SEC is willing to exempt certain blockchain-based digital assets from being treated as securities. In conjunction with the framework, the SEC’s Division of Corporation Finance issued a no-action letter stating that tokens issued by TurnKey Jet (TKJ), an on-demand air charter service,35×35. The ambiguity’s impact is evident in a recent ICO case in the Southern District of California. Press Release, SEC, SEC Issues Investigative Report Concluding DAO Tokens, a Digital Asset, Were Securities (July 25, 2017), https://www.sec.gov/news/press-release/2017-131 [https://perma.cc/VNU9-Q4CM]. In SEC v. W.J. 7356, 115th Cong. Id. Id. Cal. Statement on “Framework for ‘Investment Contract’ Analysis of Digital Assets” April 4, 2019 April 26, 2019 admin 0 Comments Bill Hinman, Director of Division of Corporation Finance %���� See Kiviat, supra note 9, at 578, 580. (Jan. 27, 2019, 11:00 AM), https://www.wsj.com/articles/are-ico-tokens-securities-startup-wants-a-judge-to-decide-11548604800 [https://perma.cc/3VLG-YRFR]. 8 0 obj TKJ members purchase blockchain-based tokens, which “decreases the settlement time and improves the efficiencies of paying for and obtaining air charter services.”37×37. See, e.g., Michael J. de la Merced & Nathaniel Popper, JPMorgan Chase Moves to Be First Big U.S. Bank with Its Own Cryptocurrency, N.Y. Times (Feb. 14, 2019), https://nyti.ms/2EbTNMW [https://perma.cc/5JVP-UC8N]. Framework for “Investment Contract” Analysis of Digital Assets Introduction. SEC Makes Statement on “Framework for ‘Investment Contract’ Analysis of Digital Assets” Traders Magazine Online News, April 4, 2019 John D'Antona Jr. Price appreciation resulting solely from external market forces (such as general inflationary trends or the economy) impacting the supply and demand for an underlying … SEC FinHub Publishes Framework for Investment Contract Analysis of Digital Assets 04.08.19 On April 3, 2019, the Strategic Hub for Innovation and Financial Technology (“FinHub”) released a framework for analyzing the application of U.S. federal … Id. Id. Public Statement, Hinman & Szczepanik, supra note 3. Paul Vigna et al., What Crypto Downturn? Id. Id. The SEC justified an ambiguous application of securities regulation as an effort to promote a particular objective — innovation. The SEC alleged Blockvest’s ICO fraudulently claimed it had been registered with the SEC and even advertised approval from a fictitious government agency called the Blockchain Exchange Commission. The Court has since focused on the substance of the transaction, rather than the form, to determine the nature of the financial instrument.20×20. As institutional market participants enter the blockchain and cryptocurrency arena,43×43. which is meant to “assist those seeking to comply with the U.S. federal securities laws.”3×3. In October 2018, the SEC obtained an emergency court order enjoining Blockvest, a company that allegedly made a series of fraudulent claims regarding its upcoming ICO, from selling any securities.45×45. Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934: The DAO, Exchange Act Release No. A court ruling on this particular case “could help determine the scope of the SEC’s authority to tame the unruly ICO market.”60×60. We might be able to draw clearer lines once we see more blockchain projects mature. Id. Statement on "Framework for ‘Investment Contract' Analysis of Digital Assets" Bill Hinman, Director of Division of Corporation Finance Valerie Szczepanik, Senior Advisor for Digital Assets and Innovation. 1 0 obj Public Statement, Bill Hinman, Dir. 2, 2019), https://www.sec.gov/divisions/corpfin/cf-noaction/2019/turnkey-jet-040219-2a1-incoming.pdf [https://perma.cc/4D5N-BL7M] [hereinafter TurnKey Jet Incoming Letter]. A threshold issue is whether the digital asset is a “security” under those … SEC, supra note 2. In July 2017, the SEC applied existing securities laws — including the Howey test — to determine that some tokens were in fact securities.21×21. Howey Co.,18×18. The Court held that a transaction is an investment contract if: (1) there is an investment of money, (2) in a common enterprise, with (3) a reasonable expectation of profits to be derived from the efforts of a third party.19×19. On April 3, 2019, the SEC released Staff Guidance titled “Framework for ‘Investment Contract’ Analysis of Digital Assets,” which applies the factors set forth in SEC v. W.J. Id. at *5. but disputed the SEC’s assertion that, in the order denying the SEC’s request for a preliminary injunction, “the court [had] applied a subjective test” by relying “solely on the beliefs of some individual investors.”51×51. 81,207, 2017 WL 7184670 (July 25, 2017). Howey Co. and subsequent case law.Howey found that an “investment contract” exists where there is an investment of money in a common enterprise with a reasonable expectation … This distributed ledger mitigates information asymmetry concerns, which the SEC regulations are designed to protect against.11×11. See SEC v. Blockvest, LLC, No. uncertainty” and provide the clarity “required to spur continued investment and innovation in this technology.”57×57. Id. If you are considering an Initial Coin Offering, sometimes referred to as an “ICO,” or otherwise engaging in the offer, sale, or distribution of a digital asset, you need to consider whether the U.S. federal securities laws apply. 2144, 116th Cong. There are also state law analyses that need to be done. Yield Platform. See id. Introduction If you are considering an Initial Coin Offering, sometimes referred to as an “ICO,” or otherwise engaging in the offer, sale, or distribution of a digital asset,2 you need to consider whether the U.S. federal securities laws apply. Proponents of the bill believe that it would “eliminate . The SEC concluded that there was no team and the coin was backed by nothing, and it warned Zaslavskiy he was breaking the law. Sept. 29, 2017), ECF No. 17-cr-647, 2018 WL 4346339, at *7–9 (E.D.N.Y. 26, 2018). As a result, some market participants are calling for judicial intervention, and the framework may be geared more toward guiding judges’ analyses in inevitable litigation than equipping citizens to navigate ICOs. Distributed ledger technology provides a means of recording account balances. 24,081, 2018 WL 1468815 (Mar. In discussing the analysis for digital assets, for instance, the framework is careful to point out that the inquiry “is an objective one, focused on the transaction itself and the manner in which the digital asset is offered and sold.”61×61. The SEC has been careful to say that the framework is simply “[s]taff guidance,” is not legally binding on the SEC, and is only meant to be an “analytical tool” to evaluate digital assets.54×54. The SEC has just released an 11-page statement with an analysis pertaining to digital assets being offered and sold as an investment contract. With REcoin, Zaslavskiy “allegedly misrepresented [REcoin] had raised between $2 million and $4 million from investors when the actual amount [was] approximately $300,000.” Id. TurnKey Jet No-Action Letter, supra note 36. Delay in drawing clear lines may actually allow more freedom for the technology to come into its own.”44×44. If you are considering an Initial Coin Offering, sometimes referred to as an “ICO,” or otherwise engaging in the offer, sale, or distribution of a digital asset, you need to consider whether the U.S. federal securities laws apply. The document isn’t an official SEC regulation. Oct. 3, 2018), ECF No. See id. x��]َ=n�裡� ��F-� ���=��L�O�0��B-��N�n;��h�9��Dq�D�T�il*���_�3g��_~��K�h\t�m����˿����Hw������7l����_�t�����d���O�/$whmJw��ʷ�x�돗?|�#?~Î SEC v. REcoin Grp. The fact that the SEC specifically named “decentralized networks” indicates that it is signaling support for decentralized, distributed ledger technology and is trying to meaningfully carve out a space where blockchain-based tokens can function without being labeled securities. of Corp. L.J. (internal citation omitted) (first quoting Blockvest, 2018 WL 6181408, at *7; and then quoting Warfield v. Alaniz, 569 F.3d 1015, 1021 (9th Cir. Nikhilesh De & Aaron Stanley, SEC Official Says “Plain English” Guidance on ICOs Is Coming, Coindesk (Nov. 6, 2018, 1:05 PM), https://www.coindesk.com/sec-official-says-plain-english-guidance-on-icos-is-coming [https://perma.cc/SM5E-WC6M]. Agencies often struggle to capture emerging technologies in dusty regulatory frameworks14×14. But in November 2018, Judge Curiel denied the SEC’s request for a preliminary injunction, finding the Commission could not show that investors bought into the Blockvest ICO with an expectation of making a profit from the efforts of others.46×46. 15 U.S.C. This implies that the use of decentralized networks makes a digital asset somewhat less likely to be an investment contract — and therefore less likely to be classified as a security. . See H.R. (2019). ICOs that are securities offerings, we should regulate them like we regulate securities offerings.”41×41. SEC, supra note 2. 10,578, 2018 WL 6266203 (Nov. 29, 2018). Enable your end-users to earn yield on their assets through lending and staking capabilities. 1. %PDF-1.4 SEC, supra note 2. {�0�t`��Ø���/TJ[� �c��о;�y�����|���U�r��+e"��o��rߔ��‹��������\��mp��[WZ������+������i�L�^�u�i�-�6o����5v�f�i�rOӵ6�����=�� �j����9�6�,�rOල?���ml���j���o�p��y����ޔl���O�ک3)c�����Ǫ?��m���|�|���r��*�������K�ܧ��o�����˽7�/�����@׽�E��O���g��4�#9�&� �� @-�����::���ă>����i���5>��,�3g�1��8�M� �G}���S��\��U������6X��i��Z�. The SEC has applied the “investment contract” analysis outlined in the U.S. Supreme Court’s Howey case 3 to analyze whether a digital asset – an asset that is issued and transferred using distributed ledger or blockchain technology, including, but not limited to, so-called virtual currencies, coins and tokens – is a security. at *7, *9. H.R. endobj On April 3, 2019, the SEC released Staff Guidance titled “Framework for ‘Investment Contract’ Analysis of Digital Assets,” which applies the factors set forth in SEC v. W.J. In Howey, the owner of a Florida citrus grove proposed to sell a land interest to investors. Statement on “Framework for ‘Investment Contract’ Analysis of Digital Assets” April 3, 2019 Blockchain and distributed ledger technology can catalyze a wide range of innovation. The report is titled Framework for “Investment Contract” Analysis of Digital Assets, and is prefaced by the following Public Statement framing it. (May 15, 2018), https://www.federalreserve.gov/newsevents/speech/brainard20180515a.htm [https://perma.cc/8DWS-CH5Q]. Id. Though the new framework is helpful, it is not binding and is not an adequate substitute for clear rules upon which market participants could rely. An evaluation of the digital asset should also consider whether there is a reasonable expectation of profits. Profits can be, among other things, capital appreciation resulting from the development of the initial investment or business enterprise or a participation in earnings resulting from the use of purchasers' funds. of Governors of the Fed. The Framework provides a helpful discussion of factors a market participant must consider when analyzing whether a digital asset represents an investment contract, especially with respect to … Sept. 11, 2018). Hester M. Peirce, Comm’r, SEC, Regulation: A View from Inside the Machine, Remarks at Protecting the Public While Fostering Innovation and Entrepreneurship: First Principles of Optimal Regulation (Feb. 8, 2019), https://www.sec.gov/news/speech/peirce-regulation-view-inside-machine [https://perma.cc/EQN2-PF5N] (acknowledging that “[t]oken offerings do not always map perfectly onto traditional securities offerings”). In that sense, the SEC’s framework may be more about guiding judges’ analysis in future litigation than providing tools for an average market participant to evaluate her digital assets. The guidance quickly dispenses with the first and second prongs of the Howey test, stating that the requirements for an “investment of money” in a “common enterprise” are “typically satisfied” in a digital asset transaction.31×31. This reversal is evidence of the previous ambiguity in the space regarding tokens as securities. By way of background, an ICO is a fundraising mechanism in which new projects sell their underlying cryptotokens in exchange for fiat currency (for example, cash) or cryptocurrency (for example, Bitcoin).7×7. Id. Framework for “Investment Contract” Analysis of Digital Assets, SEC, Division of Enforcement Annual Report, Platforms as Trustees: Information Fiduciaries and the Value of Analogy, https://www.coindesk.com/sec-jay-clayton-consensus-invest-video, https://www.sec.gov/corpfin/framework-investment-contract-analysis-digital-assets#_ednref9, https://www.sec.gov/news/public-statement/statement-framework-investment-contract-analysis-digital-assets, https://www.federalreserve.gov/newsevents/speech/brainard20180515a.htm, https://www.sec.gov/news/public-statement/statement-clayton-2017-12-11, https://www.investor.gov/additional-resources/news-alerts/alerts-bulletins/investor-bulletin-initial-coin-offerings, https://www.sec.gov/news/speech/speech-hinman-061418, https://medium.com/@BlockchainAssoc/open-blockchain-networks-are-incredibly-transparent-and-its-good-public-policy-to-support-them-be1288a74ecd, https://www.wsj.com/articles/drone-regulators-struggle-to-keep-up-with-the-rapidly-growing-technology-1468202371, https://insights.som.yale.edu/insights/can-regulators-keep-up-with-fintech, https://www.sec.gov/news/speech/peirce-regulation-view-inside-machine, https://www.sec.gov/news/press-release/2017-176, https://www.bloomberg.com/news/articles/2018-11-15/first-fraud-case-for-initial-coin-offering-set-for-guilty-plea, https://www.bloomberg.com/news/articles/2018-09-11/u-s-judge-says-initial-coin-offering-covered-by-securities-law, https://www.covfinancialservices.com/2017/10/sec-brings-enforcement-action-against-two-companies-related-to-initial-coin-offerings/, https://www.sec.gov/news/press-release/2018-240, https://www.sec.gov/divisions/corpfin/cf-noaction/2019/turnkey-jet-040219-2a1-incoming.pdf, https://www.sec.gov/divisions/corpfin/cf-noaction/2019/turnkey-jet-040219-2a1.htm, https://www.sec.gov/news/press-release/2017-131, https://medium.com/@BlockchainAssoc/the-token-taxonomy-act-is-back-and-we-need-it-more-than-ever-d2cbf0154776, https://www.forbes.com/sites/yoavvilner/2019/02/18/the-case-of-authorities-vs-kik-what-do-we-know-so-far/#7da29a631b86, https://www.wsj.com/articles/are-ico-tokens-securities-startup-wants-a-judge-to-decide-11548604800, https://www.coindesk.com/sec-official-says-plain-english-guidance-on-icos-is-coming, https://www.wsj.com/articles/what-crypto-downturn-ico-fundraising-surges-in-2018-1530466008, https://www.sec.gov/files/enforcement-annual-report-2018.pdf. A word for word reading and breakdown of the SEC framework for understanding what is a Security Token vs what is a Utility token. Zaslavskiy promised huge returns and fabricated a “team of lawyers, professionals, brokers, and accountants” to raise hundreds of thousands of dollars from investors. In contrast, with distributed ledger technology, the transaction record is distributed across computers and other internet-connected devices in separate locations globally, without the need for a trusted central authority. The framework and no-action letter indicate that the SEC is open to excluding some blockchain-based digital assets from securities regulations. April 3, 2019. The SEC’s new framework demonstrates the agency’s desire to provide clarity and, more importantly, acknowledges that some blockchain-based digital assets should not be treated as securities. For instance, the framework advises that a purchaser is less likely to be relying on the efforts of others if an “unaffiliated, dispersed community of network users (commonly known as a ‘decentralized’ network),” rather than an active participant, is responsible for “essential tasks or responsibilities” of the project.53×53. <>>> SEC, Division of Enforcement Annual Report 3 (2018), https://www.sec.gov/files/enforcement-annual-report-2018.pdf [https://perma.cc/3KPY-VNAK]. I used a … As a result, there is significant decentralization, and the underlying source information is open to any market participant.10×10. However, as a counterpoint, lack of regulatory clarity may be a barrier to entry and give market participants less appetite to take risks. See Blockchain Ass’n, The Token Taxonomy Act is Back, and We Need it More than Ever, Medium (Apr. Sources: Statement on “Framework for ‘Investment Contract’ Analysis of Digital Assets” Framework for “Investment Contract” Analysis of Digital Assets; Turnkey Jet No-Action Letter The agency may delay providing clarity by all but ensuring that judges do not get the chance to draw bright-line rules. (Exchange Act) are not necessarily proper fits for regulating blockchain-based digital assets. of Corp. Liquidity Solutions. <>>> See, e.g., Andy Pasztor & Robert Wall, Drone Regulators Struggle to Keep Up with the Rapidly Growing Technology, Wall St. J. Reserve Sys., Cryptocurrencies, Digital Currencies, and Distributed Ledger Technologies: What Are We Learning? The Framework states that an investment in a digital asset would usually constitute an investment in a common enterprise because "the fortunes of digital asset purchasers have been linked to each other or to the success of the promoter's efforts" 13. On April 3, 2019, the Securities and Exchange Commission (“SEC”) released the “Framework for ‘Investment Contract’ Analysis of Digital Assets” (the “Framework”). However, in a reversal of the decision, in February 2019, Judge Curiel granted the agency’s renewed injunction bid, finding that the SEC had indeed made the case that Blockvest’s promotional materials constituted an offer of unregistered securities containing materially false statements.49×49. Id. 569, 577 (2015). 13 0 obj Securities Laws May Apply to Offers, Sales, and Trading of Interests in Virtual Organizations.”40×40. Blockchain Ass’n, supra note 55. <> stream 159, 160 (2012). Through selective enforcement of the most egregious fraud cases, the SEC has prevented judges from interpreting the application of securities laws to digital assets, leading to vague and nebulous regulation. Id. Cal. The SEC also seemed to conflate the regulation of tokens as cryptocurrencies with tokens as investment contracts. TurnKey Jet, Inc., SEC No-Action Letter (Apr. — and the SEC is no different as it attempts to capture ICOs in the Securities Act and the Exchange Act.15×15. SEC, supra note 2. SEC, Framework for “Investment Contract” Analysis of Digital Assets (2019), https://www.sec.gov/corpfin/framework-investment-contract-analysis-digital-assets#_ednref9 [https://perma.cc/3G6P-GG85]. Framework for “Investment Contract” Analysis of Digital Assets1 I. 24 (2018) (statement of Jay Clayton, Chairman, SEC). S Similarly, the staff's response in the TKJ letter focuses on factors that also are identified in the framework. endobj . Rather, the guide helps investors and companies determine the classification of a particular token. endobj See Patricia Hurtado, First Initial Coin Offering Fraud Case Ends in Guilty Plea, Bloomberg (Nov. 15, 2018, 5:17 PM), https://www.bloomberg.com/news/articles/2018-11-15/first-fraud-case-for-initial-coin-offering-set-for-guilty-plea [https://perma.cc/L9R5-QGM3]; see also Patricia Hurtado et al., U.S. Judge Says Initial Coin Offering Covered by Securities Law, Bloomberg (Sept. 11, 2018, 11:48 AM), https://www.bloomberg.com/news/articles/2018-09-11/u-s-judge-says-initial-coin-offering-covered-by-securities-law [https://perma.cc/W2U4-D8GC].

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