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Security Token Offerings: A Way Past the SEC’s Incomplete Crypto Guidance?



2018 has been a tumultuous year on the regulatory front for the blockchain industry.

The year began with news that the SEC had issued dozens of subpoenas for blockchain startups that had issued unregistered token offerings, spreading alarm throughout the crypto world. These investigations have recently resulted in penalties, mandatory securities offering registrations and in some cases reimbursement to investors, for a few blockchain companies.

SEC Director William Hinman issued informal guidelines that bitcoin and ether were not securities because those networks had become “sufficiently decentralized.” Now, as the year winds to a close, we hear that the SEC will issue “plain English” guidance on the security token analysis as soon as early 2019.

In this uncertain regulatory environment, most blockchain startups contemplating token offerings are steering away from the public crypto markets and venturing into the brave new world of security token offerings. The buzz on the street is that “STOs” may be the next big wave for blockchain fundraising.

However, many blockchain startups initially planned their business model around what they perceived to be a utility token – a software license to use the token on a platform, often as the currency to pay for services or earn rewards in a digital marketplace powered by a blockchain.

As these start-ups shift their plans from doing ICOs toward the regulatory landscape of STOs instead, the biggest question is whether the STO is going to be the panacea everyone is looking for: what unresolved legal issues for STOs do we confront in 2019? What cutting edge issues are currently boggling the minds of securities attorneys as they begin to execute these STOs?

Using Security Tokens on a Blockchain

Most STOs that are currently being initiated are private placement securities offerings to accredited investors.

However, the private placement poses a number of unresolved problems for blockchain companies wishing to use the tokens on their platforms. These issues will have to be analyzed carefully under the facts and circumstances of each blockchain platform, but some general considerations include:

  • Accreditation: Will the accredited status of investors have to be checked every time that the platform issues tokens, even where the tokens are being issued as rewards earned on the platform?
  • One-Year Lockup: Will initial token users have to hold the tokens for a year each time they earn tokens on the platform before using them for functional purposes on the platform such as paying for services?
  • State Issuer Dealer Registration: Will blockchain companies have to register as issuer dealers with several states that have such requirements before they can transact in their own securities on their platform? The American Bar Association published a useful article on state issuer dealer registration laws. Although these issuer dealer laws usually affect primarily public offerings of securities rather than private placements, a different novel question is presented by blockchain platforms that deal in their own securities on an ongoing basis after initial issuance.
  • Registration as an Alternative Trading System (“ATS”): If the blockchain platform is acting as a marketplace to bring together sellers and purchasers of security tokens, at what point does it need to register as an ATS? The SEC has yet to issue clear guidance regarding the circumstances under which a blockchain platform dealing in security tokens would be regarded as a securities “exchange,” particularly in difficult cases where the platform does not call itself an exchange of any kind.

Brave New Frontier of Reg A+ STOs

For blockchain companies that intended their tokens to be sold to the general public rather than accredited investors, without resale restrictions, all eyes are on the backlog of exempt public security offerings, or Regulation A+ STOs, currently sitting with the SEC awaiting approval.

Although blockchain companies that have filed Form 1-As under Regulation A+ generally regard their discussions with the SEC as confidential, the grapevine has relayed that there are currently unresolved obstacles to SEC compliance for these offerings. Hopefully in 2019, we’ll see the first qualifications of Reg A+ STOs and the exempt public securities offering will no longer be considered an “experimental” area.

Problems for Secondary Trading

Once hurdles with regard to federal securities laws on resales are cleared, blockchain companies will have to figure out some way to comply with state Blue Sky laws regarding secondary trading.

Each state offers a set of exemptions under which secondary trading may take place, with many states offering an “unsolicited brokerage transactions” exemption. 2019 will be the year when issues regarding state securities laws on secondary trading must be resolved.

Conclusion: Looking Ahead

2019 promises to be an exciting and eventful year for security token offerings.

For the first time, the blockchain industry will figure out if there is a way forward from the SEC’s informal guidance that most token offerings will have to be registered or issued under an exemption from registration. Furthermore, a wild card has been thrown into the regulatory mix with the recent introduction of a new bill amending the Securities Act to define cryptocurrencies as not being securities so long as they are utilized on a functioning network.

It is far from clear that STOs will provide an easy solution for blockchain start-ups that planned a utility token model and are now steering clear of the public crypto markets, but undoubtedly securities attorneys will throw in their best efforts to resolve these issues.




Startup Arca Seeks SEC Approval for US Treasury Bond-Backed Stablecoin



Arca is seeking regulatory approval to sell a new type of stablecoin to retail investors.

The Los Angeles-based digital asset manager filed a prospectus with the Securities and Exchange Commission (SEC) Friday for a bond fund whose shares would be tokenized on the ethereum blockchain.  Arca hopes the SEC will approve the product later this year, a spokesperson said.

The Arca U.S. Treasury Fund would be available to the general public, but not traded on any stock exchange or alternative trading system, according to the filing.

However, shares in the fund (referred to as “Arca UST Coins”) would be represented as ERC-20 tokens, which run on top of ethereum. And Arca is framing the product as a form of stablecoin, or cryptocurrency designed to maintain parity with a traditional asset like the U.S. dollar, although the company cautioned that it may be slightly less stable than other such products on the market.

The minimum investment in the fund would be $1,000, with a target net asset value (NAV) of $1 per share. At least 80 percent of the fund would be invested in U.S. Treasury securities, with the rest in debt issued by various public or private entities inside and outside the U.S.

“It is therefore anticipated that the underlying portfolio, and the NAV of Arca UST Coins, will have relatively little volatility,” the document says. “Accordingly, although holders of Arca UST Coins could experience greater NAV volatility compared to typical stablecoins, such volatility will be relatively limited.”

Investors would receive quarterly dividends from the interest payments, according to the prospectus, although the fund’s “investment objective is to seek maximum total return consistent with preservation of capital.” In other words, stable value rather than big profits.

To buy shares from the fund or from another investor, traders “must first establish a wallet address through the Arca application and ensure that it is whitelisted with the Transfer Agent,” according to the prospectus. “Once an investor’s wallet address is whitelisted, the investor can use the Arca application to transfer money from a linked bank account to the Fund in return for shares of the Fund.”

It is not clear how many of these purportedly dollar-pegged tokens Arca aims to sell; the prospectus says the offering would need to raise $25 million for the fund to have viable operations.

Arca is not to be confused with NYSE Arca, one of several firms seeking to launch a bitcoin exchange-traded fund (ETF) in the U.S.




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The SEC Just Released Its Long-Awaited Crypto Token Guidance



The U.S. Securities and Exchange Commission (SEC) has published fresh regulatory guidance for token issuers, nearly half a year in the making.

The guidance focuses on tokens and outlines how and when these cryptocurrencies may fall under a securities classification, according to the document

SEC Director of Corporation Finance William Hinman first revealed that the regulator was developing new guidance for crypto tokens last November, and other members of the agency, including FinHub head Valerie Szczepanik and Commissioner Hester Peirce, have repeatedly said that SEC staff was working on the document.

In November, Hinman said the “plain English” guidance would help token issuers easily determine whether or not their cryptocurrency would qualify as a security offering.

The guidance includes examples of both networks and tokens that fall under securities laws, as well as a project which does not.

DLT framework

The framework itself outlines a number of factors that token issuers must consider before evaluating whether or not their offerings qualify as securities. These 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.

Referencing the oft-cited Howey test, 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 also details 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 a 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 then 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.

While this guidance has been a long time coming, and provides some legal clarity for token issuers, it is not a legally binding document, and should be seen more as a guideline.

Peirce has said 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.”

Remaining questions

While the guidance discusses securities classifications, other questions remain 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 comes 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.

Szczepanik said during a panel at the D.C. Blockchain Summit in March that these firms “need to show that they have possession and control and that could be hard to demonstrate with a digital asset.”

“A digital asset … is controlled by whoever possesses the private key, and it’s hard to prove a negative,” she explained.

Also Wednesday, the SEC issued its first-ever no-action letter authorizing a startup’s token sale to go forward (full story here).

Read the full guidance here:

Read the full guidance here:

DLT Framework by CoinDesk on Scrib



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SEC’s Crypto Token Framework Falls Short of Clear and Actionable Guidance



The Takeaway:

  • The SEC’s new guidance outlines how it will apply the decades-old Howey test to crypto assets.
  • However, there remain a number of unanswered questions, including how the broad definition of “active participants” might impact projects; how startups based overseas are impacted and when and how a token might no longer be a security.
  • While legal experts and industry participants see this as a positive first step, the consensus appears to be that there are still many issues still to be discussed.

Well, it’s a start.

That was the general feeling among blockchain lawyers and regulatory experts following the long-awaited release Wednesday of U.S. Securities and Exchange Commission (SEC) guidance for startups looking to issue tokens.

While the additional clarity was certainly welcome, the new framework is lacking in some key areas, these industry members said. In particular, questions remain about how broadly this guidance applies and what startups can actually take away from the new framework.

The SEC published its “plain English” guidance nearly six months after William Hinman, the SEC Director of Corporation Finance, announced the regulator was developing it. Speaking to CoinDesk Wednesday, Hinman said the guidance should be useful for startups to determine whether their offerings qualify as securities.

“We try to give an example of what might be a security and also what might not be. We’re also trying to say that we recognize in certain cases the instrument is offered and sold for actual use,” he said, adding:One thing we’re trying to make clear in this analysis is that not one of these factors is dispositive, you have to look at the whole mix.”

Moreover, Wednesday’s guidance is not legally binding.

The question of whether a token is a security is far more than academic, however. Because if a token does meet the definition, it means the startup or blockchain project selling it must follow longstanding, expensive and onerous registration requirements – and an issuer that fails to do so is breaking federal law.

With such high stakes, the SEC’s framework was not quite the clarifying document many had hoped for.

“While it’s helpful and it’s good to see the SEC remains focused in this area, it’s not quite as useful as a law or a rule or even formal guidance would be,” said Andrew Hinkes, an attorney with Carlton Fields and general counsel for the investment bank Athena Blockchain. “A lot of it is a reiteration of what the law is and has been.”

However, there are many new details in Wednesday’s document, he said, starting with the concept of “active participants” (APs). In the SEC’s guidance, active participants are broadly defined, and could be any entity which manages a project, but may also refer to promoters, sponsors or other third parties which have an impact on the possible success of an enterprise.

The lack of specificity is worth noting, Hinkes said, adding:

“This is a pretty broad and pretty flexibly defined group and by the look of this AP definition, you start to wonder, will promoters be involved? Will independent activists or shareholders be determined to be APs and then swept into this analysis?”

Katherine Wu, a lawyer and former SEC staffer, told CoinDesk via email that the definition of “active participant” may pose issues for startups.

“Taken liberally, that definition could really impact and even hinder the process in which a token project/start-up can decentralize itself,” she said.

Jake Chervinsky, an attorney with Kobre Kim, told CoinDesk via email that in his view, the SEC used the term to make clear to projects that their tokens can qualify as securities even if the original token issuer is not involved with any expectation of profit.

“In other words, if Company A sells a token on the promise that purchasers will profit from Company B’s efforts, the token could still be a security even if Company A has nothing to do with the project after the token is issued. I do think there could be some token projects in this situation,” he said.

The onus would be on Company A to watch for this sort of scenario, he added.


The main precedent-setting question that remains unanswered, Hinkes said, is when do tokens no longer qualify as securities, and when would the SEC be able to make that determination.

Hailey Lennon, head of legal and regulatory affairs with bitFlyer USA, told CoinDesk that the guidance appears to be primarily summarizing “additional considerations for the industry” in terms of evaluating their token offerings.

“I believe today’s SEC Framework is intended to help the industry and give companies more factors to consider,” she said. Yet, referring to the agency’s decades-old method for determining whether something is a security, Lennon added:

today’s SEC Framework provides additional clarity but it does not give the industry all the answers. … The ‘Other Relevant Considerations’ on page 9 and 10 illustrate that digital assets don’t fit neatly into the Howey test and there are additional factors from cases that the industry needs to consider.”

Peter Van Valkenburgh, director of research at industry lobbyist Coin Center, told CoinDesk in a statement via a spokesperson that while the conclusion to the SEC’s guidance is not necessarily new, the fact that the regulator is “saying it more clearly than ever” is still significant.

The guidance, in particular, helps startups and developers “who have done the right thing” know that they are in compliance, he said.

On the flip side, it will be interesting to see how the framework is used with regard to future enforcement actions, said Philip Moustakis, an attorney with Seward and Kissel and formerly with the SEC’s Division of Enforcement and Cyber Unit.

Lennon echoed his comments, saying that “these factors could be used to justify additional enforcement actions down the road.”

Other questions

The framework also leaves unanswered other questions about federal securities laws and their application to crypto tokens, Chervinsky said.

In particular, it is unclear whether token sales conducted outside the U.S. fall under the SEC’s jurisdiction.

“It isn’t clear to me that crypto companies will be able to reach confident conclusions about their compliance status through this framework alone,” he said.

It’s an issue that has been raised before. Speaking in New York in March, SEC Commissioner Hester Peirce explained that startups in other nations can easily come into contact with U.S. securities laws without aiming to do so.

This raises the question of how and when the SEC should enforce actions against startups outside the U.S., she said, explaining:

“If you’re reaching out to U.S. investors, you can come into contact with our securities laws. … When I see those kinds of enforcement cases, I often say to my colleagues, ‘all right, do we really expect someone who’s based somewhere, in India for example, to be thinking about U.S. securities laws at all times?’ and I think that’s not reasonable.”

That being said, some startups do very deliberately reach out to U.S. investors, and in those cases, the startups must be careful as they “can easily come into contact with our laws,” she said.


Unanswered questions aside, some said Wednesday’s guidance – and an accompanying missive to an individual company – might simply continue to stifle innovation in the space.

The same day as issuing the framework, the SEC also published its first-ever “no-action letter,” allowing TurnKey Jet LLC to initiate a token sale. Again, while the headline was a cause for celebration, the startup was subject to heavy restrictions. (TurnKey went back and forth with the SEC for nearly a yearbefore it received the letter.)

“I would also be remiss if I didn’t note that the release of this framework was timed along with the … letter,” Wu said. “In my opinion, the no-action letter is woefully inadequate to address questions for a lot of token projects, because the issue at hand was akin to tokenizing airline miles; nothing super innovative there.”

Returning to the framework, Kristin Smith, the director of the Blockchain Association, a D.C.-based lobbying group, told CoinDesk in a statement that while the group appreciates that the SEC is looking at how to apply securities laws to the crypto space, “this guidance presents a framework that will stifle investment in and innovation of open blockchain networks in the United States.”

Still, Chervinsky said, the framework does provide a deep, thorough analysis of how the Howey test applies to digital assets, and is clearer than any statements the SEC has previously issued. Referring to the agency’s last major pronouncement on the matter nearly two years ago, he added:“The Framework effectively replaces the DAO Report as the SEC’s go-to explanation for whether and when digital assets qualify as regulated securities, and by including a list of crypto-specific characteristics relevant to the Howey analysis, the Framework is many times more helpful than the DAO Report ever was.”

Hinkes agreed, saying that the fact that the regulator is continuing to engage with the marketplace bodes well for the industry.

“It’s positive for the digital asset market to see the regulators engage with the marketplace, to continue to bring better clarity to the marketplace and to me this is a positive sign for the industry even in the form of a statement that’s not a rule or guidance or a law,” Hinkes said.



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