Many people new to the cryptocurrency space are surprised to hear one of the industry’s largest and more complex regulatory agencies is the U.S. Securities and Exchange Commission (SEC). That is all because of a 1946 case called SEC v. W. J. Howey Co. In Howey, the defendants offered real estate contracts for tracts of land in citrus groves. This case formed the test for determining whether transactions are investment contracts (and subject to securities registration requirements). Under the Howey Test, a transaction is an investment contract if there are the following elements:
- An investment of money
- A common enterprise
- Reasonable expectations of profits
- Profits derived from the efforts of others
Well, fast forward 70 years and this is the same case law that the cryptocurrency space must apply to determine whether issuing or listing a certain digital asset requires SEC registration. We are a long way from those citrus groves in 1946 and the complexities of applying this old law to new technology is difficult to say the least. The SEC has made efforts to bring clarity to the Howey Test as it applies to digital assets. It is the third and fourth prong that are usually the area for factual interpretation/debate and in April 2019, the SEC released their Framework for “Investment Contract” Analysis of Digital Assets. While helpful, by doing so, the SEC essentially turned the 4 prong Howey Test into dozens of considerations companies now need to consider before issuing or listing a cryptocurrency.
Regulation Through Enforcement Actions
On September 15th, the SEC announced an enforcement action and settlement with Unikrn, Inc. This is certainly not a first in terms of SEC enforcements against cryptocurrency projects but what makes this enforcement different is that Unikrn is alleged to have offered its tokens in an unregistered offering but there is no additional allegation of fraud.
This regulation through enforcement presents challenges for legal practitioners. Stephen Palley, who leads the technology practice at Anderson Kill, in Washington D.C., represents an array of businesses in the blockchain and cryptocurrency space. According to Palley, in spite of actions against Unikrn, Telegram and others, clients who want to be on the right side of the law are frustrated by the need to try to predict regulatory gray areas.
“Clients are coming to us for conservative compliance advice. Enforcement has a long tail (Unikrn took place several years ago) and can take years to be made public, so we don’t know what is going on behind the scenes. As a practitioner in the trenches, I can tell you that our clients wish there was more guidance to launch projects without fear of enforcement and there is a risk that this lack of clarity will stifle innovation by some and encourage imprudent fund-raising by others. This doesn’t change the advice that we give – which is to stay on the right side of the law – but clearer guardrails would be welcome.”
SEC Commissioner Hester Peirce, (affectionately nicknamed 'Crypto Mom'), released a dissenting opinion regarding Unikrn and more generally, her thoughts about the SEC’s practice of regulating through enforcement actions. In her statement, Peirce stated that she recognizes “that the determination of....
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