SEC Releases Guide Clarifying Securities Status of ICOs

SEC Defines Instances When ICOs Are Not Securities

“The SEC published an article discussing when ICOs are considered securities.”

cryptocurrency advisors block society fa

By Block Society

On April 3, 2019, the SEC published detailed guidelines discussing when ICOs and digital assets are considered securities. The SEC considered how and when cryptocurrencies are considered investment contracts, one of the categories of securities falling under the agency’s jurisdiction.

 

“The U.S. Supreme Court’s Howey case and subsequent case law have found that an ‘investment contract’ exists when there is the investment of money in a common enterprise with a reasonable expectation of profits to be derived from the efforts of others. The so-called ‘Howey test’ applies to any contract, scheme, or transaction, regardless of whether it has any of the characteristics of typical securities.”

 

In accordance with the Howey test, individuals who promote ICOs can be subject to SEC regulations. While the first two elements of an investment contract, investment of money and the presence of a common enterprise, clearly exist within digital assets and ICOs, the SEC spends significant time discussing whether individuals buying digital assets expect a profit.

In evaluating whether the third prong of the Howey case is met, the SEC determined that when active participants, third parties such as marketers and sponsors, promote an ICO and investors reasonably rely on statements made by those third parties, an investment contract exists. The SEC gives several examples of instances where it is reasonable to believe investors relied on information provided by active participants, which include:

  • The active participants control the creation, supply and distribution of the cryptocurrency
  • The active participants promise future actions following the ICO, such as additional development
  • The active participant has significant control over the platform, such as network updates and platform governance
  • Investors reasonably expect the active participants increase the worth of the digital asset

“While the first two elements of an investment contract, investment of money and the presence of a common enterprise, clearly exist within digital assets and ICOs, the SEC spends significant time discussing whether individuals buying digital assets expect a profit.”

                                                               

When deciding if an investor reasonably expects profits from an ICO, the SEC provides several factors that indicate profits are expected, including:

  • The ICO is attempting to raise more funds than needed to make its platform operational
  • Investors acquire an amount of digital assets that indicates investment intent, defined as an amount that far exceeds the amount “any likely user would reasonably need”
  • Holders of the digital asset are entitled to profits if the coins value increases
  • The ICO is marketed to more than just potential users or those who have a use for the platform

The release also outlines when an ICO is not considered a security. Some examples of ICOs not meeting the criteria for an investment contract include:

  • The asset has more value being used for its intended purpose than its potential increase in price
  • The asset is not advertised as having a potential higher future value
  • The asset’s functionality, not future worth, is the core characteristic marketed by the ICO
  • The platform holding the ICO and its cryptocurrency are already functioning
  • Purchasers can immediately use the digital asset and its platform
  • The digital asset is made to either have a constant or depreciating value
  • The digital asset is restricted to in network-use and the asset does not promote speculation
  • The digital asset can immediately be used to make payments on multiple platforms or is a substitute for fiat currency

The publication is noteworthy for not only clarifying when ICOs are considered securities, but also for outlining and providing examples of when an ICO is not a security. The explanation clarifies how future ICOs should proceed within the SEC’s regulatory framework and gives investors and digital asset platforms a more detailed outline to ICOs.

 

SEC. 3 April 2019. Framework for “Investment Contract” Analysis of Digital Assets. https://www.sec.gov/files/dlt-framework.pdf

Leave a Reply

Close Menu