U.S. Federal Judge Says Initial Coin Offerings Fall Under Securities Laws
A U.S. federal judge has ruled that initial coin offerings (ICOs) may fall under securities laws, handing regulators a major victory in their efforts to rein in the multi-billion-dollar crowdfunding industry.
The decision, which was handed down Tuesday by U.S. District Judge Raymond Dearie in Brooklyn, came in a case against Maksim Zaslavskiy, a fraudulent ICO promoter accused of raising money for assets that never existed. According to Bloomberg, the businessman was charged with conspiracy and two counts of securities fraud related to two coin offerings purportedly backed by investments in real estate and diamonds.
Zaslavskiy’s lawyer argued that the coin offerings in question were currencies and not securities, placing them outside the jurisdiction of the U.S. Securities and Exchange Commission (SEC). The businessman also said that securities laws are not clear enough to apply to ICOs.
“Per the indictment, no diamonds or real estate, or any coins, tokens, or currency of any imaginable sort, ever existed — despite promises made to investors to the contrary,” Dearie said, as quoted by Bloomberg. “Simply labeling an investment opportunity as a ‘virtual currency’ or ‘cryptocurrency’ does not transform an investment contract – a security – into a currency.”
While a jury will ultimately decide whether Zaslavskiy’s ICOs were securities, the indictment would support such a conclusion.
Zaslavskiy was charged in September 2017 for defrauding investors through several ICO scams, including REcoin, which was allegedly backed by real estate and diamonds.
The ruling on Tuesday affirms the SEC’s long-standing position that coin offerings fall under federal securities laws. Previously, coin issuers had argued that there was a difference between “security” tokens and “utility” tokens.Under this classification, utility tokens fund the development of a project but are later used to purchase goods or services on the network. However, SEC Chairman Jay Clayton has repeatedly said he has not come across any coin offering that was not a security.
The agency uses the so-called Howey Test to determine whether an asset should be classified as a security. Using this as a baseline, an ICO is a security if it is an investment in money; invests in a common enterprise; expects to earn a profit; and whose profit is generated from the effort of others.
As a security, an ICO would have to satisfy provisions set forth by the SEC Investment Company Act of 1940 in order to raise funds. This means only accredited investors are eligible. What’s more, securities can only trade on regulated exchanges. To avoid getting bogged down by the SEC, many ICO projects have barred U.S. investors from participating in their crowdsale.
Roughly $7 billion has been raised this year by ICOs but funding has slowed considerably in recent months. The crowdfunding method raised in excess of $6 billion in all of 2017.
Disclaimer: The author owns bitcoin, Ethereum and other cryptocurrencies. He holds investment positions in the coins, but does not engage in short-term or day-trading.
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