For the Defense - Vol. 8, Issue 3 - 53

Overview
SEC v. Ripple et al., (S.D.N.Y.), Docket No.: 20 cv 10832
T
he Securities & Exchange Commission (SEC), under current
Chairman Gary Gensler, has
launched an aggressive
enforcement campaign against the cryptocurrency industry.
This campaign is without clear rules, as the federal securities laws
are silent with respect to cryptocurrency, and the SEC is relying solely
upon the United States Supreme Court's decision in SEC v. Howey
Co., 328 U.S. 293 (1946) to allege that digital assets are investment
contracts, a type of security required to be registered with the
agency.1
Commonly referred to as " regulation by enforcement, "
the SEC is hoping that by suing cryptocurrency developers and
various exchanges, the courts will determine that digital assets are
securities and subject to the registration and anti-fraud provisions
of the existing federal securities laws. Congress so far has failed to
pass legislation relating to this industry, thus leaving a regulatory
void, and in the absence of federal legislation, the SEC remains
intent to classify cryptocurrency as a security through enforcement
proceedings. The landscape of cryptocurrency enforcement is everchanging
and becoming more complex with every new lawsuit and
court opinion.
This article will focus on the trends in civil and criminal
cryptocurrency actions, specifically on the SEC because (1) the SEC
is by far the most active regulator in the cryptocurrency sector,
and (2) the top news recently has involved the SEC's civil actions.
Although the Department of Justice (DOJ) has indicted matters
related to the industry, it is taking a different approach than the SEC.
What are Digital Assets and Who is Responsible?
There are several regulators that defense counsel may encounter
when dealing with cryptocurrency matters: Securities & Exchange
Commission (SEC), Crypto Assets and Cyber Unit, Commodity Futures
Trading Commission (CFTC), Digital Assets Task Force, Financial Crimes
Enforcement Network (FinCEN), Office of Foreign Assets Control
(OFAC), State Regulators, Department of Justice (DOJ), National
Crypto Enforcement Team, and IRS Operation Hidden Treasure.
For years, there have been discussions about the regulatory
uncertainty in the cryptocurrency industry and the definition of a
digital asset. The CFTC has taken the position that cryptocurrencies
are " pure commodities, " while the SEC has taken the position that
nearly all cryptocurrencies (except for Bitcoin) are " securities. "
While there are no statutes or existing SEC rules that clarify whether
cryptocurrencies are " securities, " the SEC's position under Chairman
Gensler has been that cryptocurrencies are no different from stocks,
bonds, and other securities and therefore must comply with U.S.
Securities laws. The current trend has been that the SEC and CFTC
have shared jurisdiction over the regulation of cryptocurrencies, but
as it stands, the SEC is taking the lead on more aggressive actions
and has engaged in " regulation by enforcement. "
Trends in Civil Enforcement
The SEC has been active in attempting to regulate cryptocurrency
by enforcement actions alleging that industry participants have
failed to register their products, platforms, and exchanges with the
SEC. The following cases are the main enforcement actions to watch.
On July 13, 2023, the SEC suffered a major defeat when a judge
in the Southern District of New York ruled that retail sales of digital
assets were NOT securities in SEC v. Ripple Labs Inc.2
The SEC sued
Ripple and two of its executives in December of 2020, alleging that
the XRP coin generated by Ripple's " secured ledger or 'blockchain' "
was an investment contract and, thus, a security.3
The Court found
that Ripple's sales of XRP to retail investors did not meet the Howey
test because the SEC failed to meet the third prong of the test; that
investors would reasonably expect profits derived solely from the
efforts of Ripple.4
Specifically, the Court held that " the vast majority
of individuals who purchased XRP from digital asset exchanges did
not invest their money in Ripple..., were [not] aware that they were
buying XRP from Ripple " and, therefore, could not reasonably have
expected any profit to be " derived from the entrepreneurial or
managerial efforts " of Ripple.5
The Ripple decision will have a significant impact on the SEC's
enforcement efforts as the retail investor sales in Ripple are
similar to retail investor purchases that occur on cryptocurrency
exchanges in the secondary market. While the Ripple opinion is not
binding precedent, it is likely to influence other matters involving
cryptocurrency exchanges and retail investor digital asset purchases.
While the law will continue to develop through a variety of pending
enforcement actions, the industry is possibly years away from a U.S.
Supreme Court decision, Congressional action, and final clarification.
SEC v. Coinbase, Inc. (S.D.N.Y.), Docket No.: 23 cv 4738
Coinbase is the largest cryptocurrency platform in the United
States6 and has been urging Congress to enact legislation that
would provide clear guidelines in the market. In June, the SEC
charged Coinbase for, among other charges, failing to register as a
securities exchange, and it could become the landmark case related
to whether exchange traded digital assets are securities. Prior to the
current action, Coinbase acted in good faith to work cooperatively
with the SEC and discussed a potential resolution, including a path
to registering with the agency.
By way of summary, the Complaint, insists that the exchange traded
coins are unregistered securities because they satisfy the Howey test,
and alleges that Coinbase " deprived investors of disclosures and
protections that registration entails and thus exposed the investors
to significant risk. " 7
These protections include inspection by the SEC,
recordkeeping requirements, and safeguards against conflicts of
interest.
The other allegations against Coinbase relate to its " staking
program " and Coinbase's public statements
test. The SEC's position
regarding why
staking is not a security. A key issue in the Complaint is whether
cryptocurrency " staking " satisfies the Howey8
is that Coinbase " never had a registration statement filed or in effect
with the SEC for its offers and sales of its staking program, thereby
depriving investors of material information about the program,
undermining investors' interests, and violating the registration
provisions of the Securities Act of 1933. " 9
Vol. 8, Issue 3 l For The Defense 53
For the Defense - Vol. 8, Issue 3

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