After nearly half a year in the making, the U.S. Securities and Exchange Commission (SEC) publishes fresh regulatory guidance for token issuers. These guidelines focus on tokens and outline how and when these cryptocurrencies may fall under a securities classification, as stated in the document.
Last November, SEC Director of Corporation Finance William Hinman revealed that the regulator was developing new guidance for crypto tokens. At the time, Hinman said the “plain English” guidance would help token issuers easily determine whether or not their cryptocurrency would qualify as a security offering.
Later other members of the agency, including FinHub head Valerie Szczepanik and Commissioner Hester Peirce, have reiterated said that SEC staff was working on the document.
The guidance by SEC includes examples for both networks and tokens that fall under securities laws, as well as a project which does not.
The DLT framework
The framework outlines a number of factors for token issuers to consider while evaluating whether or not their offerings qualify as securities. the said factors include an expectation of profit, whether a single or at least central group of entities are responsible for specific tasks within the network, and whether a group is creating or supporting a market for a digital asset.
The Howey test is referred and the guidance highlights “reliance on the efforts of others,” reasonable expectation of profits, how developed the network is, what the tokens’ use cases might be, whether there is a correlation between a token’s purchase price and its market price and a host of other factors.
The guidance further details on how issuers should look at tokens previously sold, both in evaluating whether they should have been registered as securities, as well as whether “a digital asset previously sold as security should be reevaluated.”
The criteria for this reevaluation include whether:
- The “distributed ledger network and digital asset are fully developed and operational” (meaning individuals can immediately use the token for some function);
- The token is focused on a specific use case rather than speculation;
- “Prospects for appreciation” in the token’s value are limited; and
- If billed as a currency, the token actually operates as a store of value.
Though it took a long time in development, these guidelines can provide some legal clarity for token issuers. Notably, it is not a legally binding document and should be seen more as a guideline. Peirce stated in the past that staff-issued guidance does not carry the weight that guidance issued by the Commissioners would.
Speaking at New York University in March, Peirce explained:
“Now staff guidance is staff guidance. The Commission can go ahead and bring enforcement actions anyway but staff guidance does carry a bit of weight, but I would like to do something more formal at the Commission level so people have a little bit more certainty.”
Some unanswered issues
The guidance does leave some questions unanswered, in particular, the SEC has yet to provide clarity around the idea of custody for broker-dealers holding cryptocurrencies.
The key issue around custody arises from the fact that while broker-dealers can easily verify that cryptocurrencies in any given wallet belong to them, it is harder to prove that no one else has access to the holdings.
During a panel at the D.C. Blockchain Summit in March, Szczepanik stated that these firms “need to show that they have possession and control and that could be hard to demonstrate with a digital asset.” She elaborated:
“A digital asset … is controlled by whoever possesses the private key, and it’s hard to prove a negative.”
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