United States | Publication | gennaio 2024
As 2023 has come to an end, it is again a good time to reflect on the notable case law and enforcement actions in the digital asset space that shaped US federal securities laws in 2023 and will continue to set the stage for an active 2024.
Throughout 2023, the Securities and Exchange Commission (SEC) continued to wield its regulatory authority through its controversial approach of “regulation by enforcement” without issuing clear guidance and rulemaking for crypto and digital assets. The SEC brought its usual share of fraud related enforcement actions (for example, see charges brought against Chinese businessman Miles Guo and his financial adviser; additional fraud charges against FTX’s Caroline Ellison, Gary Wang and Samuel Bankman-Fried; fraud charges against FTX’s Nishad Singh; fraud charges against Terraform and CEO Do Kwon), underscoring its commitment to investor protection. However, the headlines that drew widespread attention were primarily focused on the SEC’s aggressive pursuit of cases and enforcements involving unregistered offerings, NFTs and unregistered exchanges. We will highlight a few notable ones below.
The SEC brought numerous enforcement actions last year regarding the sale of crypto assets as lending products. At the start of the year, the SEC sued Genesis Global Capital, LLC and Gemini Trust Company, LLC alleging that these companies engaged in the unregistered offer and sale of securities to retail investors through an investment opportunity called the Gemini Earn crypto asset lending program (Gemini Earn). The SEC alleged Gemini Earn investors tendered crypto assets to Genesis and, in exchange, Genesis promised to pay interest on those assets to investors. Genesis and Gemini marketed the program through social channels and touted the high interest rates investors could earn through the program. Genesis pooled the crypto assets from the program with assets from other investors and deployed such assets to generate revenue for its business. The SEC alleged the Gemini Earn program constituted an offer and sale of securities under applicable law and should have been registered with the SEC. To date, the Gemini Earn program has been terminated. Further investigation relating to the alleged misconduct is ongoing.
A few days later, on January 19, 2023, the SEC issued a cease-and-desist order against Nexo Capital Inc. for failing to register the offer and sale of its retail crypto asset lending product, the Earn Interest Product (EIP). Similarly, EIP was deemed an investment contract by the SEC. The SEC considered Nexo’s remedial efforts to cease offering the EIP to new US investors and cease paying interest on new funds added to existing EIP accounts of US investors when similar charges were brought by the SEC against a different company. Without admitting or denying the SEC’s findings, Nexo agreed to pay a US$45m penalty (between the SEC and state regulatory authorities) and agreed to a cease-and-desist order prohibiting it from registration provision violations.
Later in the year, on July 13, 2023, the SEC filed charges against Celsius Network Limited (Celsius) and its founder and former CEO, Alex Mashinsky, for violating both the anti-fraud provisions of the federal securities laws as well as violating the registration provisions by failing to register its crypto lending product, the Earn Interest Program (Celsius EIP). Again, the SEC alleged the Celsius EIP constituted the offer and sale of securities under the federal securities laws. These charges were brought a year after Celsius had filed for bankruptcy. Pursuant to the SEC's press release on the matter, Celsius is cooperating with the SEC and has consented to the relief sought in the complaint, including an injunction against future securities law violations and participation in the purchase, offer or sale of any crypto asset securities.
Finally, on September 7, 2023, the SEC issued another cease-and-desist order, this time against Linus Financial, Inc. (Linus), for failing to register the offer and sale of Linus Interest Accounts, its crypto lending product, to retail investors. Again, after the SEC announced similar charges against a crypto asset lending product, Linus voluntarily ceased offering the Linus Interest Accounts. Pursuant to the order, the SEC determined not to impose civil penalties due to Linus’s cooperation and prompt remedial actions to cease offering the Linus Interest Accounts to new investors and allowing existing investors to claim their funds.
Crypto lending products were not the only assets under scrutiny by the SEC last year. On February 9, 2023, the SEC charged Payward Ventures, Inc. and Payward Trading Ltd., both doing business as Kraken, with failing to register the offer and sale of securities connected to the Kraken Staking Program, its crypto asset staking-as-a-service program. Similar to the above lending products, the SEC alleged investors transferred crypto assets to Kraken for staking in exchange for advertised annual investment returns of as much as 21 percent. SEC Chair Gary Gensler noted, “Whether it’s through staking-as-a-service, lending or other means, crypto intermediaries, when offering investment contracts in exchange for investors’ tokens, need to provide the proper disclosures and safeguards required by our securities laws.” To settle the SEC’s charges, Kraken agreed to immediately cease its crypto staking program and pay US$30m in disgorgement, prejudgment interest and civil penalties.
Last year, our 2022 crypto round up highlighted the legal actions against Ripple Labs, Inc. (Ripple), LBRY Inc. (LBRY) and Thor Technologies (Thor). Since then, the United States District Court for the Southern District of New York issued a mixed decision as to whether various sales and issuances of the XRP token by Ripple constituted the sale of an unregistered security. The Court held Ripple’s “programmatic” sales of XRP through secondary trading platforms did not constitute securities transactions while its direct sales to institutional investors did. The SEC filed a request for an interlocutory appeal that was ultimately denied. However, only two weeks later, another judge from the same court took a different approach in the Terraform Labs case “rejecting the approach recently adopted” by the Court in Ripple and upheld the SEC’s enforcement action. It remains to be seen whether other courts will take a similar approach to either ruling and the SEC’s next steps. See a further in-depth analysis on these two cases from our colleague here and here.
As to LBRY, on July 11, 2023, the United States District Court for the District of New Hampshire ordered LBRY to pay a civil penalty of US$111,614 for the unregistered offer and sale of issued crypto asset securities called “LBRY Credits” or “LBC.” LBRY was also permanently enjoined from further violations of the registration provisions of the federal securities laws and from participating in unregistered offerings of crypto asset securities in the future. SEC Commissioner Hester M. Peirce issued a dissent on the outcome of LBRY, arguing that the case brought against LBRY illustrates the “arbitrariness and real-life consequences” of the SEC’s enforcement-driven approach to crypto. Furthermore, Commissioner Peirce believes the SEC should focus their time and resources to building a “workable regulatory framework that companies like LBRY could have followed.” Otherwise, the SEC’s current approach will dissuade people from experimenting with blockchain technology.
Then, on October 18, 2023, the United States District Court for the Northern District of California entered a default judgment against Thor and its founder, David Chin, for conducting an unregistered offering of crypto asset securities. The Court permanently restrained and enjoined Thor and Chin from participating in any crypto asset securities offering along with ordering the defendants to pay monetary penalties.
The SEC issued two similar and controversial cease-and-desist orders against nonfungible token (NFT) issuers – Impact Theory, LLC (Impact Theory) and Stoner Cats 2 LLC (SC2) – for their alleged “unregistered offerings of securities”. The SEC alleged that, through public statements and hosted events, Impact Theory encouraged potential “investors” to view the purchase of their NFTs as an investment in the business. Without admitting or denying the SEC’s findings, Impact Theory agreed to a cease-and-desist order finding that it violated securities registration provisions and was ordered to pay a combined total of more than US$6.1m in disgorgement, prejudgment interest and a civil penalty.
Similarly, the SEC charged SC2 with conducting an unregistered offering of crypto asset securities in the form of NFTs that raised approximately US$8m from investors to finance an animated web series called Stoner Cats. Without admitting or denying the SEC’s findings, SC2 agreed to a cease-and-desist order and to pay a civil penalty of US$1m. SC2 also agreed to destroy all NFTs in its possession or control and publish notice of the order on its website and social media channels. With both Impact Theory and SC2, the NFTs did not represent equity in the respective company and did not provide for any liquidation, distribution or other share-like rights.
SEC Commissioner Pierce and Commissioner Mark T. Uyeda issued dissents to each of the enforcement actions against Impact Theory and SC2, arguing that the SEC’s application of the securities laws in these cases “makes little sense and discourages content creators from exploring ways to harness social networks to create and distribute content.” See our further analysis here.
Similar to 2022, the SEC brought enforcement actions against various celebrities for violating the anti-touting provisions of the US federal securities laws. In February of last year, the SEC charged former NBA player Paul Pierce for touting on social media a crypto asset security (EMAX tokens) offered and sold by EthereumMax without disclosing he was paid for such promotion. The SEC alleged Pierce published a post on his Twitter account regarding EMAX tokens, however, did not disclose that he was paid more than US$244,000 worth of EMAX tokens for such promotion. Pierce ultimately agreed to settle with the SEC.
The following month, the SEC charged American rapper and record producer, DeAndre Cortez Way (Soulja Boy) and American pop singer and songwriter, Austin Mahone, for touting on social media two crypto asset securities offered and sold by crypto asset entrepreneur Justin Sun and three of his wholly-owned companies without disclosing they were paid for such promotion. The SEC alleged Soulja Boy published multiple posts on his Twitter account regarding Tronix (TRX) and BitTorrent (BTT) – the crypto assets being offered by Sun. He did not, however disclose that he was being paid US$10,000 for the tweets. The SEC also alleged Mahone published a post on his Twitter account regarding TRX and BTT but did not disclose that he was being paid US$20,059 for the tweet. Both Soulja Boy and Mahone ultimately agreed to settle with the SEC.
Topping the headlines last year was the SEC’s attempt to reign in crypto asset trading platforms for allegedly acting as unregistered exchanges, brokers and clearing agencies.
In March of last year, the SEC charged the crypto asset trading platform beaxy.com (the Beaxy Platform) for failing to register as a national securities exchange, broker and clearing agency. The SEC alleged the Beaxy Platform was a web-based trading platform that facilitated buying and selling of crypto assets that were offered and sold as securities. The SEC further alleged that the Beaxy Platform (i) should have registered as an exchange because it brought together the orders for securities of multiple buyers and sellers using established, non-discretionary methods under which such orders interacted and the buyers and sells entering such orders agreed to the terms of the trade; (ii) should have registered as a broker because it was regularly engaged in the business of effecting transactions for the account of others in crypto asset securities; and (iii) should have registered as a clearing agency because it acted as an intermediary in making payments and deliveries upon matching sell and buy orders and maintained custody of customer assets. Pursuant to the consents filed by the defendants, they have agreed to cease all activities as an unregistered exchange, clearing agency and broker. Beaxy ultimately agreed to settle with the SEC.
The following month, the SEC similarly charged crypto asset trading platform Bittrex, Inc. for operating as an unregistered national securities exchange, broker and clearing agency. The SEC also charged Bittrex Global GmbH, a foreign affiliate of Bittrex, Inc., for failing to register as a national securities exchange. The SEC alleged Bittrex should have registered as an exchange, broker and clearing agency for the same three reasons described above with respect to Beaxy. Bittrex ultimately settled with the SEC.
Then, in June of last year, the SEC charged Coinbase, Inc. (Coinbase) with again operating its crypto asset trading platform as an unregistered national securities exchange, broker and clearing agency. The SEC brought an additional charge against Coinbase for failing to register the offer and sale of its crypto asset staking-as-a-service program. The SEC alleges that the failure to register will deprive investors of significant protections and safeguards. Coinbase pushed back on the charges, and the investigation for these cases is still ongoing.
During the same month of June of last year, as part of a larger enforcement, the SEC charged Binance Holdings Ltd. (Binance) and its affiliate, BAM Trading Services Inc. (BAM Trading) with operating as unregistered exchanges, brokers and clearing agencies, along with various other charges against the aforementioned entities and their founder. The investigation and litigation for this case is still ongoing.
Finally, shortly before the year’s end, on November 20, 2023, Kraken was additionally charged for operating as an unregistered securities exchange, broker, dealer and clearing agency. The SEC alleged Kraken should have registered as an exchange, broker and clearing agency for the same three reasons described above with respect to Beaxy. The SEC further alleged Kraken also operates as a dealer because it engages in the business of buying and selling securities for its own account without an applicable exception. The SEC’s investigation as to this matter is still ongoing, as well.
The SEC brought charges against Titan Global Capital Management USA LLC (Titan), a New York-based FinTech investment adviser, for misrepresenting hypothetical performance metrics for its Titan Crypto strategy in advertisements and multiple compliance failures that led to misleading disclosures regarding custody of clients’ crypto assets and the failure to adopt policies with respect to crypto asset trading by employees, among other things. This action was the SEC’s first under the newly adopted “Marketing Rule.”
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Given the increase of enforcement actions aimed at the crypto markets in 2023, we expect to see even further ramp up in enforcement and regulatory actions with respect to US securities laws in 2024. It remains to be seen whether 2024 will be another year of “regulation by enforcement” or whether guidance and rulemaking will finally be initiated.
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