Not All Tokens are Securities Tokens

Despite recent comments by a former SEC chairman, some tokens are not securities

Photo by Sharon Co Images on Unsplash

“There are, for example, cryptocurrencies like bitcoin. These function perhaps like money… They may be currency, commodities, or something else, but it is unlikely that, on their own, they’re actually securities,” said the Securities and Exchange Commission (SEC) Commissioner Hester Peirce, while addressing a recent fintech conference.

She added: “My fear that regulators will grab hold of the shovels and buckets is why I am often wary of so-called regulatory sandboxes. I am entirely in favor of finding ways to make appropriate regulatory allowances that clear the way for innovation to flourish.”

Former SEC commissioner Joseph Grundfest, on the other hand, doesn’t know why the SEC hasn’t cracked down on “Initial Coin Offerings” (ICOs), a new and controversial way for companies to raise funds via Ethereum and other cryptocurrencies.

The current law and business professor at Stanford told the New York Times he has reached out to current SEC officials and advised that they litigate against ICO-financed companies.

“ICOs represent the most pervasive, open and notorious violation of federal securities laws since the Code of Hammurabi,” Mr. Grundfest told blockchain-focused journalist Nathaniel Popper.

“It’s more than the extent of the violation,” he added. “It’s the almost comedic quality of the violation.”

So-dubbed “initial coin offerings”, “token sales”, and so on, have raised more than $3 billion from “token purchasers” or “investors”. Startups promise future utility in most cases, whether that be as an online method of payment or other online services.

“We’re waiting to see a whole bunch of enforcement actions in this space, and we wonder why they haven’t happened yet,” Grundfest said. “I hope what they are doing is planning on a sweep of 50 ICOs.”

Mr. Grundfest, who served as SEC chairman in the eighties, said regulators could define initial coin offerings as securities and then prosecute those who did not register as such.

Jay Clayton, the Chairman of the SEC, noted in November that the Agency intends to go after securities law violators.

“Where we see fraud, and where we see people engaging in offerings that are not registered, we are going to pursue them because these types of things have a destabilizing effect on the market,” Mr. Clayton commented at a Federal Reserve Bank of New York-held meeting.

Mr. Grundfest says things are taking too long.

“These are not hard cases,” he said. “You don’t need teams of accountants pouring over complex financing documents.”

“Is this amazing technology? Yes,” Grundfest told the New York Times. “But most of the stuff we see today is total crap.”

What does he say when companies ask him to be an advisor?

“I say, ‘Look, you are at very high risk for violating the securities law,’ and explain why,” he said. “Then they go find another lawyer.”

The DAO, an early Ethereum ICO that launched in April 2016 raised over $150 million US dollars worth of Ether. In mid-2017, the SEC released a report that determined The DAO represented a security offering. The SEC has yet to enforce against this issuance. The SEC did bring a case against two small, fraudulent coin offerings, and has advised that many other tokens being offered might be considered securities. Issuers who do not follow the regulations could therefore be in violation of securities law.

We at Polymath have long known that the enforcement of regulations in this space is bound to happen. That’s why we are building our decentralized blockchain platform: to simplify the complex technical and legal challenges of securities token creation.

Crypto-assets can touch on many different regulated areas, including commodities, tax, securities, and money transmission. While an offering must comply with securities regulations, issuers should be mindful of other regulations as well, since regulators worldwide are trying to figure out crypto-assets and how to treat them. Without clear regulatory guidelines in this specific field, issuers need to put their best foot forward to comply with traditional regulations.