SEC Takes ICOs & Securities Stance, Gives More Initial Coin Offering Legal Guidance

The SEC has taken a stance on ICOs. According to William Hinman, the Director of the Division of Corporation and Finance at the SEC, Ether is not a security and accordingly, it is not subject to United States securities law.

In Hinman’s own words,

“[P]utting aside the fundraising that accompanied the creation of Ether, based on my understanding of the present state of Ether, current offers and sales of Ether are not securities transactions. And, as with Bitcoin, applying the disclosure regime of the federal securities laws to current transactions in Ether would seem to add little value.”

This stance, of course, is likely met with a great deal of relief by investors. The next question is – what of cryptocurrencies. While Hinman did not take a hard stance as he did with Ethereum, he suggested that cryptocurrency startups may be able to raise money by the sale of tokens before launch and they can maintain a non-security status in terms of “utility tokens” while the networks are running and the tokens are essentially not usable.

As Hinman stated,

“Can a digital asset that was originally offered in a securities offering ever be later sold in a manner that does not constitute an offering of a security? In cases where the digital asset represents a set of rights that gives the holder a financial interest in an enterprise, the answer is likely no. In these cases, calling the transaction an initial coin offering or an ICO, or a sale of a token will not take it out of the purview of the U.S. securities laws. But what about cases where there is no longer any central enterprise being invested in or where the digital asset is sold only to be used to purchase a good or service available through the network on which it was created? I believe in these cases the answer is a qualified yes.”

As it stands, there seems to be a regulatory framework in place concerning cryptocurrencies and a set of rules that guide transparency as to prevent fraud and manipulation. However, at this point, there are yet a set of stringent rules that apply.

At the current state, ICOs that are looking to fund the construction of decentralized and open protocol may want to be most wary of the SEC’s rules. The only point where they may consider themselves free from scrutiny is when the founders walk away from the project.

Another issue involves genuine utility tokens, which can be used to buy and sell and that are owned by companies – one example is Ripple. If the token is used for investment and fundraising purposes with the use of investors, then it gets closer to being designated as a security and comes under the purview of the SEC.

On the other hand, if the network is decentralized and there is no company to regulate, then no financial disclosures can take place and no counterparty to coordinate transactions. Therefore, it is less in the realm of being a security.